We test and confirm the hypothesis that individual investors are net buyers of attentiongrabbing stocks, e.g., stocks in the news, stocks experiencing high abnormal trading volume, and stocks with extreme one-day returns. Attention-driven buying results from the difficulty that investors have searching the thousands of stocks they can potentially buy. Individual investors do not face the same search problem when selling because they tend to sell only stocks they already own. We hypothesize that many investors consider purchasing only stocks that have first caught their attention. Thus, preferences determine choices after attention has determined the choice set.
I test the disposition effect, the tendency of investors to hold losing investments too long and sell winning investments too soon, by analyzing trading records for 10,000 accounts at a large discount brokerage house. These investors demonstrate a strong preference for realizing winners rather than losers. Their behavior does not appear to be motivated by a desire to rebalance portfolios, or to avoid the higher trading costs of low priced stocks. Nor is it justified by subsequent portfolio performance. For taxable investments, it is suboptimal and leads to lower after-tax returns. Tax-motivated selling is most evident in December.THE TENDENCY TO HOLD LOSERS too long and sell winners too soon has been labeled the disposition effect by Shefrin and Statman~1985!. For taxable investments the disposition effect predicts that people will behave quite differently than they would if they paid attention to tax consequences. To test the disposition effect,
I test the disposition effect, the tendency of investors to hold losing investments too long and sell winning investments too soon, by analyzing trading records for 10,000 accounts at a large discount brokerage house. These investors demonstrate a strong preference for realizing winners rather than losers. Their behavior does not appear to be motivated by a desire to rebalance portfolios, or to avoid the higher trading costs of low priced stocks. Nor is it justified by subsequent portfolio performance. For taxable investments, it is suboptimal and leads to lower after-tax returns. Tax-motivated selling is most evident in December.THE TENDENCY TO HOLD LOSERS too long and sell winners too soon has been labeled the disposition effect by Shefrin and Statman~1985!. For taxable investments the disposition effect predicts that people will behave quite differently than they would if they paid attention to tax consequences. To test the disposition effect,
Individual investors who hold common stocks directly pay a tremendous performance penalty for active trading. Of 66,465 households with accounts at a large discount broker during 1991 to 1996, those that trade most earn an annual return of 11.4 percent, while the market returns 17.9 percent. The average household earns an annual return of 16.4 percent, tilts its common stock investment toward high-beta, small, value stocks, and turns over 75 percent of its portfolio annually. Overconfidence can explain high trading levels and the resulting poor performance of individual investors. Our central message is that trading is hazardous to your wealth. The investor's chief problem-and even his worst enemy-is likely to be himself. Benjamin GrahamIn 1996, approximately 47 percent of equity investments in the United States were held directly by households, 23 percent by pension funds, and 14 percent by mutual funds~Securities Industry Fact Book, 1997!. Financial economists have extensively analyzed the return performance of equities managed by mutual funds. There is also a fair amount of research on the performance of equities managed by pension funds. Unfortunately, there is little research on the return performance of equities held directly by households, despite their large ownership of equities.* Graduate School of Management, University of California, Davis. We are grateful to the discount brokerage firm that provided us with the data for this study. We appreciate the comments of Christopher Barry, George Bittlingmayer, Eugene Fama, Ken French, Laurie Krigman, Bing Liang, John Nofsinger, Srinivasan Rangan, Mark Rubinstein, René Stulz~the editor!, Avanidhar Subrahmanyam, Kent Womack, Jason Zweig, two anonymous reviewers, seminar participants at the American Finance Association Meetings~New York, 1999!, the 9th Annual Conference on Financial Economics and Accountancy at New York University, Notre Dame University, the University of Illinois, and participants in the Compuserve Investor Forum. All errors are our own. THE JOURNAL OF FINANCE • VOL. LV, NO. 2 • APRIL 2000 773In this paper, we attempt to shed light on the investment performance of common stocks held directly by households. To do so, we analyze a unique data set that consists of position statements and trading activity for 78,000 households at a large discount brokerage firm over a six-year period ending in January 1997.Our analyses also allow us to test two competing theories of trading activity. Using a rational expectation framework, Grossman and Stiglitz~1980! argue that investors will trade when the marginal benefit of doing so is equal to or exceeds the marginal cost of the trade. In contrast Odean~1998b!, Gervais and Odean~1998!, and Caballé and Sákovics~1998! develop theoretical models of financial markets where investors suffer from overconfidence. These overconfidence models predict that investors will trade to their detriment. 1 Our most dramatic empirical evidence supports the view that overconfidence leads to excessive trading~see Figure ...
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