Motivated Beliefs about Stock Returns

Abstract

Systematic biases in return expectations can distort stock prices and lead to inefficient capital allocation. In this paper, we report experimental evidence that buying a stock induces optimistically biased expectations when its price drops below the purchase price. We find this effect across two experimental settings, a controlled laboratory experiment and a six-week-long online experiment involving real equities traded in the stock market in real time. Our results are consistent with the idea that investors form “motivated beliefs” about stocks returns. In addition, motivated beliefs explain a substantial part of the reluctance to sell losing stocks, as in the well-known disposition effect.

Keywords: motivated beliefs, price expectations, disposition effect

JEL Classification: C91, D83, D91, G41