Why do Investors Update Reference Prices Asymmetrically?

37 Pages Posted: 17 Oct 2010

See all articles by Susan Jung Grant

Susan Jung Grant

University of Colorado at Boulder - Leeds School of Business

Ying Xie

University of Texas at Dallas

Dilip Soman

University of Toronto - Behavioural Economics in Action at Rotman (BEAR)

Date Written: June 8, 2010

Abstract

One of the most pervasive financial decisions that consumers engage in is the purchase and sale of common stock. The goal of this research is to understand the conditions under which consumers update the reference prices of their investments, which influence stock-trading decisions. Four studies show that individual investors not only update reference prices to a greater extent when their stock breaks even after following a positive path (i.e. values above purchase price) versus a negative path (i.e., values below purchase price), but this asymmetry in reference-price updating (Studies 1-2) can be accounted for by investors’ tendency to view price increases as a relevant basis for short-term action (e.g., taking profits); price decreases elicit little motivation for short-term action. Giving investors a short-term outlook increases reference-price updating (Study 3). The authors find that memory for positive extrema is more accurate than for negative extrema, which suggests greater attention to positive-path prices, thus supporting the proposed view (Study 4). These findings have implications for explaining individual investors’ tendency to remain invested amid significant stock market losses.

Keywords: Reference Prices, Reference Price Updating, Investor Behavior, Stock Investing

JEL Classification: G10, M21

Suggested Citation

Jung Grant, Susan and Xie, Ying and Soman, Dilip, Why do Investors Update Reference Prices Asymmetrically? (June 8, 2010). Available at SSRN: https://ssrn.com/abstract=1693189 or http://dx.doi.org/10.2139/ssrn.1693189

Susan Jung Grant (Contact Author)

University of Colorado at Boulder - Leeds School of Business ( email )

Boulder, CO 80309-0419
United States

Ying Xie

University of Texas at Dallas ( email )

2601 North Floyd Road
Richardson, TX 75083
United States

Dilip Soman

University of Toronto - Behavioural Economics in Action at Rotman (BEAR) ( email )

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