Investor Behavior under Prospect Theory: Evidence from Mutual Funds
53 Pages Posted: 11 Feb 2021 Last revised: 15 Mar 2021
Date Written: December 24, 2020
This paper studies the investment behavior of investors and fund managers within the mutual funds industry. We find that investors are biased in their mutual fund purchase decisions in a way described by prospect theory: The prospect theory value predicts future mutual fund flows, despite the fact that it is not related to the mutual funds' future performance. We show that the mutual funds' prospect theory value contains incremental information compared to historical performance measures already discovered in the mutual fund flow literature, and subsumes the information content of variables related to the convexity in the flow-performance relationship. We find that mutual fund managers are not subject to any behavioral bias identifiable by prospect theory when selecting stocks for their mutual fund portfolio. The results are robust to various specifications.
Keywords: Mutual Funds Flows, Prospect Theory, Mutual Funds Performance
JEL Classification: G11, G23, G41
Suggested Citation: Suggested Citation