Opening the Black Box: From an Individual Bias to Portfolio Performance

46 Pages Posted: 1 Aug 2009 Last revised: 16 Mar 2012

See all articles by Alen Nosic

Alen Nosic

affiliation not provided to SSRN

Martin Weber

University of Mannheim - Department of Banking and Finance

Markus Glaser

Ludwig Maximilian University of Munich - Faculty of Business Administration (Munich School of Management)

Date Written: May 27, 2011

Abstract

We suggest an experimental design that can help opening the black box of investor behavior by documenting a channel of how biases affect portfolio performance. We study two of the most important investor biases (overreaction and overconfidence), show how they are related, and analyze their consequences for portfolio choice and resulting portfolio performance in a controlled experimental setting with 104 participants. The main innovation of our study is that we go beyond just documenting a correlation between overconfidence on the one hand and investor behavior as well as resulting portfolio performance on the other hand. We empirically identify the precise channel (overreaction) which is proposed by some models. We find that subjects overreact on average, i.e. forecasts are too optimistic after positive signals and too pessimistic after negative signals. Furthermore, there is greater overreaction when subjects are more overconfident. Moreover, overreaction is related to risk taking in a portfolio choice task thereby adversely affecting portfolio efficiency.

Keywords: Overreaction, Underreaction, Overconfidence, Miscalibration, Portfolio Performance, Portfolio Risk, Risk Taking, Sharpe Ratio

JEL Classification: D1, G1

Suggested Citation

Nosic, Alen and Weber, Martin and Glaser, Markus, Opening the Black Box: From an Individual Bias to Portfolio Performance (May 27, 2011). Available at SSRN: https://ssrn.com/abstract=1441263 or http://dx.doi.org/10.2139/ssrn.1441263

Alen Nosic

affiliation not provided to SSRN ( email )

Martin Weber

University of Mannheim - Department of Banking and Finance ( email )

D-68131 Mannheim
Germany
+49 621 181 1532 (Phone)
+49 621 181 1534 (Fax)

Markus Glaser (Contact Author)

Ludwig Maximilian University of Munich - Faculty of Business Administration (Munich School of Management) ( email )

Schackstra├če 4
Munich, 80539
Germany

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