Biased By Choice: How Financial Constraints Can Reduce Financial Mistakes

83 Pages Posted: 29 Dec 2018 Last revised: 29 Jul 2020

See all articles by Rawley Heimer

Rawley Heimer

Boston College - Department of Finance

Alex Imas

University of Chicago - Booth School of Business

Date Written: December 13, 2018

Abstract

We show that constraints can improve financial decision-making by disciplining behavioral biases. In financial markets, restrictions on leverage limit traders' ability to borrow to open new positions. We demonstrate that regulation which restricts the provision of leverage to retail traders increases trading performance. By increasing the opportunity cost of postponing the realization of losses, leverage constraints improve traders' market timing and reduce their disposition effect. We replicate these findings in two distinct experimental settings, further isolating the mechanism and demonstrating generality of the results. The interaction between constraints and behavioral biases has implications for policy and choice architecture.

Keywords: Behavioral Finance, Financial Decision-Making, Leverage, Disposition Effect, Realization Utility

JEL Classification: G02, G11, D03, D18

Suggested Citation

Heimer, Rawley and Imas, Alex, Biased By Choice: How Financial Constraints Can Reduce Financial Mistakes (December 13, 2018). 9th Miami Behavioral Finance Conference 2018, Available at SSRN: https://ssrn.com/abstract=3300456 or http://dx.doi.org/10.2139/ssrn.3300456

Rawley Heimer (Contact Author)

Boston College - Department of Finance ( email )

Carroll School of Management
140 Commonwealth Avenue
Chestnut Hill, MA 02467-3808
United States

Alex Imas

University of Chicago - Booth School of Business ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States

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