Disposition Matters: Volume, Volatility and Price Impact of a Behavioral Bias

Abstract

In this paper, we estimate the behavioral component of the Grinblatt and Han (2002) model and derive several testable implications about the expected relationship between the preponderance of disposition-prone investors in a market and volume, volatility and stock returns. To do this, we use a large sample of individual accounts over a six-year period in the 1990's in order to identify investors who are subject to the disposition effect. We then use their trading behavior to construct behavioral factors. We show that when the fraction of "irrational" investor purchases in a stock increases, the unexplained portion of the market price of the stock decreases. We further show that statistical exposure to a disposition factor explains cross-sectional differences in daily returns, controlling for a host of other factors and characteristics. The evidence is consistent with the hypothesis that trade between disposition-prone investors and their counter-parties impacts relative prices.

How do Markets React to Fundamental Shocks? An Experimental Analysis on Underreaction and Momentum

“…While Grinblatt and Han (2005) base their empirical analysis on aggregated market data, Goetzmann and Massa (2004) and Shumway and Wu (2006) provide more detailed studies on individual transaction-level data. Goetzmann and Massa (2004) try to elicit the time-varying proportion of disposition investors.…”

“…Goetzmann and Massa (2004) try to elicit the time-varying proportion of disposition investors. The authors utilize U.S. discount broker data on over 100,000 accounts for about 86,000 households over the period January 1991 to November 1996 and measure the proportion of disposition trades in each stock as the difference between buys-at-loss and buys-at-gain or sales-at-loss and sales-at-gain, respectively.…”

Behavioral Economy: Main Features in Belarus

“…They construct a model where the momentum effect is driven by some investors exhibiting the disposition effect in their trading behavior. Goetzmann and Massa (2003) provide evidence that a disposition effect factor is priced in the cross section of daily stock returns. Dhar and Zhu (2002) provide evidence about how the strength of the disposition effect depends on investor sophistication.…”

Investor Overconfidence and Stock Returns: Evidence from Pakistan

“…Most of today's researchers are relying on investor confidence to explain market behavior. Trading volumes are taken as proxy for investor overconfidence in recent studies (see for example Shefrin and Statman, 1985;Statman et al, 2006;Goetzmann and Massimo, 2003;Odean, 1998b;Ranguelova, 2001). All these studies take into account the investor overconfidence to explain returns and vice versa.…”