Individual Investing

What lessons do individual investors learn as they gain experience? In their November 2012 paper entitled “Do Stock Traders Learn From Experience? Evidence from an Emerging Market”, John Campbell, Tarun Ramadorai and Benjamin Ranish examine the evolution of performance and trading behaviors with experience among individual investors in Indian stocks. The Indian market has a rapidly growing investor base with direct equity ownership prevalent . Based on data available, they focus on relationships between account age and portfolio changes. Using random samples of monthly data for individual Indian accounts during 2002 through 2011, they find that: Keep Reading

Are investment advisors worth the price? In the August 2012 version of their paper entitled “The Impact of Financial Advisors on the Stock Portfolios of Retail Investors”, Marc Kramer and Robert Lensink investigate the impact of financial advisors on individual investor portfolio returns, risk, trading frequency and diversification. For sampled investors, the sponsoring bank standardizes strategic asset allocation advice, but the advisors made available to investors by the bank have great latitude in recommending specific stocks. While all investors are eligible for advice, each elects either an advisory relationship (randomly selected advisors) or self-directed trading. The study emphasizes controlling for any self-selection bias associated with the type of investors who seek advice, and focuses on common stock holdings to avoid any conflicts associated with mutual fund incentives. Using demographics and complete histories of common stock positions and trades for 5,661 individual advised and self-directed Dutch investors during April 2003 through August 2007 (193,418 monthly returns), they find that: Keep Reading

Does experience improve individual investing performance? In the August 2012 version of their paper entitled “Do Individual Investors Learn from Their Mistakes?”, Maximilian Koestner, Steffen Meyer and Andreas Hackethal examine whether investors learn to avoid portfolio underdiversification, overconfidence (overtrading) and the disposition effect (selling winners and holding losers). They consider three measures of investor experience: cumulative number of trades initiated; number of months with at least one trade; and, cumulative number of securities traded. Using complete trading histories, demographics and other characteristics for 19,487 German retail investors during January 2000 through December 2007, they find that: Keep Reading

How do relevant electronic social networks affect individual investing? In their March 2012 paper entitled “Facebook Finance: How Social Interaction Propagates Active Investing”, Rawley Heimer and David Simon investigate the propagation of active investing strategies within a Facebook-like social network of retail foreign exchange traders. Registered users of this free network (who must have a qualified foreign exchange broker account) have access to: (1) an indicator of the aggregate positions of the entire network in specific currency pairs; and, (2) a real-time view of the trading activity of mutually accepted “friends.” The network receives information about user trades instantly from qualified brokers. Using a complete record of activities within this network involving more than 5,500 foreign exchange traders, two million time-stamped trades and 140,000 messages and friendships mostly between February 2009 and December 2010, they find that: Keep Reading

Is individual investing truly a tale of woeful mistakes and biases? In their March 2012 paper entitled “No Skill, Mere Luck? – An Analysis of Individual Investors’ Investment Performance”, Andreas Hackethal, Steffen Meyer, Dennis Schmoltzi and Christian Stammschulte apply bootstrapping simulations based on actual portfolios to distinguish skill from luck among a sample of individual German investors. They use a four-factor model (market, size, book-to-market and momentum) to estimate risk-adjusted performance (alpha). Using weekly gross and net portfolio returns for 8,621 retail investors employing a German online broker during September 2005 through April 2010 (242 weeks), they find that: Keep Reading

How overconfident are individual investors, and how does overconfidence affect their investing practices? In his November 2011 paper entitled “Financial Overconfidence Over Time | Foresight, Hindsight, and Insight of Investors”, Christoph Merkle examines relationships between the return/risk expectations of affluent, self-directed private investors and their trading activity, diversification and risk taking. To frame the relationships, he considers three elements of overconfidence:

1. Overplacement: “I am better informed, more experienced and more skillful in investing than average.”
2. Overprecision: Confidence intervals for expectations are too narrow (expected volatility is too low).
3. Overestimation: Recollected performance is higher than actual performance.

Using quarterly survey data (617 total respondents, with at least 130 in each of nine rounds) and associated investment portfolio characteristics/activity (49,372 trades) for several hundred investors having online brokerage accounts with a UK bank between June 2008 and December 2010, he finds that: Keep Reading

How do individual investors adjust trading behaviors during bull and bear markets? Are any such adjustments advantageous? In their December 2011 paper entitled “Don’t Confuse Brains with a Bull Market: Attribution Bias, Market Condition, and Trading Behavior of Individual Investors”, Zhen Shi and Na Wang examine the trading behaviors of individual investors during different market conditions. They apply a regime switching model to the Chinese stock market to identify: a normal market during January 2005 through August 2006; a bull market during September 2006 through October 2007; and, a bear market during November 2007 through November 2008. They define excessiveness of trading based on two measures: (1) the performance of stocks bought versus that of stocks sold; and, (2) the relationship between portfolio turnover and performance. Using the trading records of 15,040 randomly selected individual Chinese investors during January 2005 through November 2008 (2,357,959 trades), they find that: Keep Reading

Do futures day traders make money? In the March 2011 version of their paper entitled “Overconfident Individual Day Traders: Evidence from a Natural Experiment”, Wei-Yu Kuo and Tse-Chun Lin investigate overconfidence and performance of day traders in the Taiwan futures market. They identify day trades as those committed to close on the same day as a condition of enjoying halved margin deposits. Using complete Taiwan Futures Exchange trading records in Taiwan dollars (TWD) during October 8, 2007 through September 30, 2008 (348,000 trades associated with 3,470 individual day traders who conduct more than 5 day trades), they find that: Keep Reading

How do individual investors respond to an offer of free, unbiased investment advice? In their August 2010 paper entitled “Is Unbiased Financial Advice To Retail Investors Sufficient? Answers from a Large Field Study”, Utpal Bhattacharya, Andreas Hackethal, Simon Kaesler, Benjamin Loos and Steffen Meyer evaluate the responses of 8,195 randomly selected active and likely self-directed individual clients of a large European broker to an offer of free advice. This advice, unbiased in that it is free of monetary incentives for the broker, consists of personalized written and verbal guidance on mean-variance optimization of the client’s existing portfolio based on the client’s risk tolerance, wealth and investment horizon. The broker initiated the offer via email, with telephone follow-ups by an advisor to non-respondents. Using portfolio holder characteristics and daily portfolio holdings/price data from September 2005-May 2009 pre-offer, May 2009-October 2009 offer and post-offer measurement intervals (through March 2010), along with advised portfolio adjustments, they find that: Keep Reading

Do distinct neural processes for rewards and punishments result in distinct variation in learning about financial gains and financial losses? If so, is such variation material to wealth-building? In their September 2011 paper entitled “Gain and Loss Learning Differentially Contribute to Life Financial Outcomes”, Brian Knutson, Gregory Samanez-Larkin and Camelia Kuhnen examine whether individual differences in gain learning and loss learning relate distinctly to cumulative financial outcomes. Specifically, they relate gain and loss learning separately to self-reported measures of assets and debts (as partially corroborated by credit reports), controlling for other potentially confounding individual characteristics. Using results of a financially incentivized learning experiment involving a representative sample of 75 San Francisco area residents, they find that: Keep Reading