The Portfolio Composition Effect
73 Pages Posted: 18 Jun 2020 Last revised: 7 Nov 2022
Date Written: June 23, 2021
This study asks whether a simple, counting-based measure of performance, which is the fraction of winner stocks in a portfolio, affects people’s willingness to invest in the portfolio. We find experimental evidence that indicates that individuals allocate larger investments to portfolios with larger fractions of winner stocks, albeit alternative portfolios have realized identical overall portfolio returns and show identical expected risk-return characteristics. Building on our experimental findings, we empirically show that the proposed composition measure also matters for the demand of leading equity market index funds. A framework which combines category-based thinking and mental accounting can explain the effect.
Keywords: Portfolio composition, investment behavior, categorical thinking, mental accounting
JEL Classification: G11, G12, G40, D84
Suggested Citation: Suggested Citation