Using Neural Data to Test a Theory of Investor Behavior: An Application to Realization Utility

61 Pages Posted: 22 Nov 2012 Last revised: 25 Jan 2015

See all articles by Cary Frydman

Cary Frydman

University of Southern California - Marshall School of Business

Nicholas Barberis

Yale School of Management; National Bureau of Economic Research (NBER)

Colin Camerer

California Institute of Technology - Division of the Humanities and Social Sciences

Peter Bossaerts

University of Melbourne - Department of Finance

Antonio Rangel

California Institute of Technology

Multiple version iconThere are 2 versions of this paper

Date Written: November 2012

Abstract

We use measures of neural activity provided by functional magnetic resonance imaging (fMRI) to test the "realization utility" theory of investor behavior, which posits that people derive utility directly from the act of realizing gains and losses. Subjects traded stocks in an experimental market while we measured their brain activity. We find that all subjects exhibit a strong disposition effect in their trading, even though it is suboptimal. Consistent with the realization utility explanation for this behavior, we find that activity in the ventromedial prefrontal cortex, an area known to encode the value of options during choices, correlates with the capital gains of potential trades; that the neural measures of realization utility correlate across subjects with their individual tendency to exhibit a disposition effect; and that activity in the ventral striatum, an area known to encode information about changes in the present value of experienced utility, exhibits a positive response when subjects realize capital gains. These results provide support for the realization utility model and, more generally, demonstrate how neural data can be helpful in testing models of investor behavior.

Suggested Citation

Frydman, Cary and Barberis, Nicholas and Camerer, Colin F. and Bossaerts, Peter L. and Rangel, Antonio, Using Neural Data to Test a Theory of Investor Behavior: An Application to Realization Utility (November 2012). NBER Working Paper No. w18562. Available at SSRN: https://ssrn.com/abstract=2179400

Cary Frydman (Contact Author)

University of Southern California - Marshall School of Business ( email )

701 Exposition Blvd
Los Angeles, CA 90089
United States

Nicholas Barberis

Yale School of Management ( email )

135 Prospect Street
P.O. Box 208200
New Haven, CT 06520-8200
United States
203-436-0777 (Phone)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Colin F. Camerer

California Institute of Technology - Division of the Humanities and Social Sciences ( email )

1200 East California Blvd.
Pasadena, CA 91125
United States
626-395-4054 (Phone)
626-432-1726 (Fax)

Peter L. Bossaerts

University of Melbourne - Department of Finance ( email )

Faculty of Economics and Commerce
Department of Finance
Carlton, Victoria 3010
Australia

HOME PAGE: http://bmmlab.org

Antonio Rangel

California Institute of Technology ( email )

Register to save articles to
your library

Register

Paper statistics

Downloads
56
rank
38,884
Abstract Views
2,021
PlumX Metrics