A reexamination of the disposition effect

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					A Reexamination of the
   Disposition Effect
      James Eaves
   Department of Finance
     Université Laval
       The Disposition Effect
 Tendency   to sell winners too soon and
  hold losers too long (Shefrin and Statman,
  1985).
 Lots of evidence from the field.
 Prospect theory is often used (informally)
  to explain the disposition effect.
 Traders are risk-adverse in profit domain
  and risk-loving in loss domain.
       The Disposition Effect
 Which  do you prefer?
 Choice 1:
   Lottery with a 50/50 chance of winning

    $20 or $0.
  Accept a certain $10 payment.
 Choice 2: “Which do you prefer”
  A lottery with a 50/50 chance of losing
    $20 or $0.
   Accept a certain $10 loss.
A Graphical Illustration
           A Graphical Illustration




Trader faces “Choice 1” and is, thus, more
likely to sell.
            A Graphical Illustration




Trader faces “Choice 2” and is, thus,more
likely to “buy the lottery” – hold their position.
      Weber and Camerer (1998)
      experiment for the disposition effect
 First
 Results:
     60% of shares sold following gains and 40%
      sold following losses
     Upward price trends generate more sales
      than downward price trends
     Average profit per share sold is greater than
      average profit per share held
 Disposition   effect was strong and costly
          Criticisms of Experiments
1.       Participants don’t have viable alternative
         to trading.
          Barberis and Xiong (2009), Hens and Vlcek
           (2005) illustrate that disposition effect is
           based on an ex-post story.
2.       Students are more likely to make
         mistakes because of frequent trading.
3.       Students have a different psychological
         relationship with money.
Students perceptions of money
 Thefollowing concepts are positively
 correlated with age (Tang (1992, 1993)) :
     Money is “good”
     Money represents achievement
     Money brings respect
     Money provides freedom and power
     Idea that we should manage our budget
      carefully
               Experiment
    Objective: Redo Weber and Camerer’s
     experiment with the following
     modifications:
1.   Give students 9 hours to make trades
2.   Offer a reasonable risk-free asset
3.   Incentivize using class-points
        Experiment Design
   Asset A: had a 65% chance of going up
    each period and a 35% chance of going
    down
   B: 55% / 45%

   C and D: 50% / 50%

   E: 45% / 65%

   F: 35% / 65%

 Participants did not know which asset had
  which distribution.
         Experiment Design
 Both  groups endowed with 10000 trading
  units ($): $1000 = 1 point : max loss = 2
  points; max gain = 5.
 Group 1: 36 participants. Riskless asset
  yielded 2 points. 5 minutes between trades.
 Group 2: 155 participants. Riskless asset
  yielded “status quo” and losses were real. 9
  hours between trades.
 Price series

Trading period
 Price series

 Trading period
Trading period




    Most promising possibilities
                Results
 Students who bought the risk-free asset:
 (2 bonus points for Group 1 and the
 “status quo” for Group 2:
   Group 1: 13 students (36.1%)

   Group 2: 22 students (14.2%)
Results
Results
                 Results
Weber and Camerer’s disposition coefficients
                   Results
Alternative disposition coefficient:
             Results




Weber and Camerer’s estimate = 0.30
   The correlation between disposition
         coefficients and profits
                   α           αs         γ LIFO        γFIFO

Group 1

Pear. Cor.        0.153        0.108        0.290          0.364
p-value           0.532        0.660        0.229          0.125
Group 2

Pear. Cor.       -0.243       -0.220       -0.013          0.038
p-value           0.011        0.022        0.890          0.699
      Yellow indicates significance at (at least) the 10% level.
                Conclusion
 Participants display a much weaker
  disposition effect.
 Group 2 sold more shares at a gain than a
  loss but this had no significant impact on
  revenues (Reported in full paper).
 Weber and Camerer’s disposition coefficient
  is insignificant, but its magnitude is negatively
  correlated with profit.
 A weak “disposition effect” can have rational
  explanations.
Results
Results
Disposition coefficient: Distribution for
Group 1
Disposition coefficient: Distribution for
Group 2

				
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