The Danger of Investor Overconfidence
46 Pages Posted: 16 Mar 2017
Date Written: November 14, 2016
We investigate how investor overconfidence and margin trades affect market efficiency around a market crash. We find that the price delay before a crash is about twice the price delay after a crash and that negative information travels slowly only when market sentiment is high because of investor overconfidence and attribution bias. After a market crash, constrained investors become more sensitive to market movements, resulting in high price synchronicity. In addition, margin traders not only trade on market trends but also generate additional momentum in prices, escalating the pyramiding and de-pyramiding effects caused by the shift in market sentiment.
Keywords: Investor Attention; Overconfidence; Margin Trade; Market Sentiment; Attribution Bias; Market Efficiency; Price Delay; Chinese Markets
JEL Classification: G02; G14
Suggested Citation: Suggested Citation