How to Alleviate Correlation Neglect

99 Pages Posted: 22 May 2019

See all articles by Christine Laudenbach

Christine Laudenbach

Goethe University Frankfurt

Michael Ungeheuer

Aalto University School of Business

Martin Weber

University of Mannheim - Department of Banking and Finance

Multiple version iconThere are 2 versions of this paper

Date Written: May 2019

Abstract

We experimentally study how presentation formats for return distributions affect investors' diversification choices. We find that sampling returns alleviates correlationneglect and constitutes an effective way to improve financial decisions. When participants get a description of probabilities for outcomes of the joint return distribution, we confirm the common finding that investors neglect the correlation between assets in their diversification choices. However, when participants sample from the joint distribution, they incorporate correlation into choices as predicted by normative theory. Results are robust across three experiments with varying expertise and experience of participants (students vs. investors), and varying return distributions (discrete, continuous).

Keywords: Correlation Neglect, Diversification, Fintech, Investment Decisions, Risk Taking

JEL Classification: C91, G02, G11

Suggested Citation

Laudenbach, Christine and Ungeheuer, Michael and Weber, Martin, How to Alleviate Correlation Neglect (May 2019). CEPR Discussion Paper No. DP13737. Available at SSRN: https://ssrn.com/abstract=3391084

Christine Laudenbach (Contact Author)

Goethe University Frankfurt ( email )

Grüneburgplatz 1
Frankfurt, 60323
Germany

Michael Ungeheuer

Aalto University School of Business ( email )

P.O.Box 21210
Aalto, 00076
Finland

HOME PAGE: http://sites.google.com/site/ungeheuermichael/

Martin Weber

University of Mannheim - Department of Banking and Finance ( email )

D-68131 Mannheim
Germany
+49 621 181 1532 (Phone)
+49 621 181 1534 (Fax)

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