Leveraging Overconfidence
74 Pages Posted: 7 Sep 2019 Last revised: 26 Jul 2022
Date Written: November 30, 2020
Abstract
In theory, investors who have low security selection ability trade more, use leverage more, and perform worse if they are overconfident. We confirm these predictions empirically by analyzing the overconfidence, trading, and performance of retail investors who use margin. Using survey data, we measure overconfidence as the difference between an investor’s self-assessment of knowledge and tested knowledge; margin investors have greater overconfidence than cash investors. Using broker data, we find margin investors trade more, speculate more, and have worse security selection ability than cash investors. A long-short portfolio that follows the trades of margin investors loses 35 bps per day.
Keywords: Individual Investors, Margin, Overconfidence, Stock Trading
JEL Classification: G41, G11, G12
Suggested Citation: Suggested Citation