Narrative Decision-Making in Investment Choices: How Investors Use News About Company Performance
27 Pages Posted: 19 Sep 2017
Date Written: September 15, 2017
Story-telling helps to define the human experience. Do people also use narratives to make sense of, and to act on, financial information? Three studies demonstrate that people’s investment predictions and choices instead are by narrative thinking. Whereas neoclassical financial theory maintains that past public information cannot be used to predict future prices, participants used company performance information revealed before a base price quotation to project future price trends after that quotation (Experiment 1), as though they are using affectively laden information to predict the ending of a story. Importantly, these projections were stronger when information concerned predictions about a company’s future performance rather than actual data about its past performance, suggesting that people not only rely on financially irrelevant (but narratively relevant) information for making predictions, but erroneously impose temporal order on that information. These biased predictions had downstream consequences for asset allocation choices (Experiment 2) and these choices were driven in part by affective reactions to the company performance news (Experiment 3). These results could not be explained either by expectations conforming to neoclassical financial models or by expectations informed by behavioral anomalies. The effect of expertise was modest, at least among novice investors, suggesting that these expectations may guide the beliefs of both amateur and more experienced investors. We conclude by discussing the prospects for a narrative theory of choice.
Keywords: Behavioral economics, Behavioral finance, Judgment & decision-making, Narratives
JEL Classification: D01, D03, D81, D84, G11
Suggested Citation: Suggested Citation