Social Transmission Bias and Investor Behavior
65 Pages Posted: 16 Oct 2017 Last revised: 19 Jun 2018
Date Written: January 17, 2018
We offer a new social approach to investment decision making and asset prices. Investors discuss their strategies and convert others to their strategies with a probability that increases in investment returns. The conversion rate is shown to be convex in realized returns. Unconditionally, active strategies (e.g., high variance and skewness) dominate, although investors have no inherent preference over these characteristics. The model has strong predictions for how adoption of active strategies depends on investors' social networks. In contrast with nonsocial approaches, sociability, self-enhancing transmission and other features of the communication process determine the popularity and pricing of active investment strategies.
Keywords: capital markets, behavioral finance, active investing, social networks, thought contagion, transmission bias
JEL Classification: G11, G12
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