Windfall Gains and Investment Choices

86 Pages Posted: 22 Aug 2015 Last revised: 1 Dec 2016

See all articles by Hans K. Hvide

Hans K. Hvide

University of Bergen - Department of Economics; University of Aberdeen - Business School; Centre for Economic Policy Research (CEPR); Institute for the Study of Labor (IZA)

Jae Lee

University of Aberdeen

Date Written: November 29, 2016

Abstract

Economic theory assumes that investment choices do not depend on the source of the budget. We test this assumption using experimental and field evidence. In the experiments, we divide participants into two groups: those that obtain an endowment through a windfall and those that obtain the same amount through completing a physical effort task (the "hard-earned" group). We show that individuals in the hard-earned group make less risky and more patient choices than individuals in the windfall group. With field data from the stock market, we show that investment behavior after realization of a windfall gain is more risk taking than after a pedestrian realization of the same size: investors make more stock purchases and in more risky stocks. We conclude that windfall gains lead to more risky and less patient choices than more regular income. Our results support mental accounting theory and prospect theory, at the expense of economic theory.

Keywords: house money, risk preferences, time preferences, windfall gain

JEL Classification: C91, D14, E21

Suggested Citation

Hvide, Hans and Lee, Jae, Windfall Gains and Investment Choices (November 29, 2016). Available at SSRN: https://ssrn.com/abstract=2648604 or http://dx.doi.org/10.2139/ssrn.2648604

Hans Hvide (Contact Author)

University of Bergen - Department of Economics ( email )

Fosswinckelsgt. 6
N-5007 Bergen, 5007
Norway

University of Aberdeen - Business School ( email )

Edward Wright Building
Dunbar Street
Aberdeen, Scotland AB24 3QY
United Kingdom

HOME PAGE: http://hans.hvide.googlepages.com/

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Institute for the Study of Labor (IZA) ( email )

P.O. Box 7240
Bonn, D-53072
Germany

Jae Lee

University of Aberdeen ( email )

Aberdeen
United Kingdom

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