Easy, Breezy, Risky: Lay Investors Fail to Diversify Because Correlated Assets Feel More Fluent and Less Risky

Forthcoming at Organizational Behavior and Human Decision Processes

80 Pages Posted: 21 Apr 2017 Last revised: 19 Jun 2019

See all articles by Yann Cornil

Yann Cornil

University of British Columbia (UBC) - Division of Marketing

David J. Hardisty

Sauder School of Business

Yakov Bart

Northeastern University - D'Amore-McKim School of Business

Date Written: June 5, 2019

Abstract

Why do people fail to diversify risk in their investment portfolios? We study how lay investors (people with low financial literacy) invest in financial assets whose past or expected returns are provided. Although investing in assets with negatively correlated returns reduces portfolio risk (i.e., reduces portfolio fluctuations), we find that lay investors instead prefer investing in assets with positively correlated returns, which results in less diversified and riskier investment portfolios than intended. Using a mixed-method approach, we find that lay investors rely on a lay perception of portfolio risk: assets with positively correlated returns feel more fluent (more familiar, simple, and predictable), and thus are erroneously perceived as less risky. We find that lay investors succeed in forming diversified, lower-risk portfolios when they are provided with aggregate portfolio returns, or when—paradoxically—they are encouraged to take more risk.

Keywords: perceived risk, lay perception, fluency, diversification, financial decision-making, financial literacy

Suggested Citation

Cornil, Yann and Hardisty, David J. and Bart, Yakov, Easy, Breezy, Risky: Lay Investors Fail to Diversify Because Correlated Assets Feel More Fluent and Less Risky (June 5, 2019). Forthcoming at Organizational Behavior and Human Decision Processes. Available at SSRN: https://ssrn.com/abstract=2956122 or http://dx.doi.org/10.2139/ssrn.2956122

Yann Cornil (Contact Author)

University of British Columbia (UBC) - Division of Marketing ( email )

Canada

HOME PAGE: http://www.yanncornil.com/

David J. Hardisty

Sauder School of Business ( email )

Canada
604-827-3158 (Phone)

HOME PAGE: http://www.sauder.ubc.ca/Faculty/People/Faculty_Members/Hardisty_David

Yakov Bart

Northeastern University - D'Amore-McKim School of Business ( email )

Boston, MA 02115
United States

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