Stock market investors' use of stop losses and the disposition effect

Abstract

The disposition effect is an investment bias where investors hold stocks at a loss longer than stocks at a gain. This bias is associated with poorer investment performance and exhibited to a greater extent by investors with less experience and less sophistication. A method of managing susceptibility to the bias is through use of stop losses. Using the trading records of UK stock market individual investors from 2006 -2009, this paper shows that stop losses used as part of investment decisions are an effective tool for inoculating against the disposition effect. We also show that investors who use stop losses have less experience and that, when not using stop losses, these investors are more reluctant to realise losses than other investors.

Factors Affecting Disposition Effect in Equity Investment: A Social Network Analysis Approach

“…On the contrary to that Talpsepp (2013) provides evidence that the portfolios of female investors perform better than the portfolios of male investors. Richards et al, (2017) find evidence that men are more likely to hold losses longer because of that they are more willing to the disposition effect than women. Singh & Bhattacharjee (2010a) found that gender has a significant role to play in equity investing.…”

“…Investor's sophistication (IS): Sophisticated investors are less resistant to realize a loss (Brown et al, 2006;Richards, Rutterford, Kodwani & Fenton-O'Creevy, 2017;Choe & Eom, 2006;Leal, Armada & Duque, 2008). Empirical evidence suggests that professional traders who trade on behalf of others are less susceptible to causing disposition effects (Shapira & Venezia, 2001;Dhar & Zhu, 2006).…”

“…Trading Experience (TE): Many researchers found that the strength of the disposition effect depends on investor's experience of past gains and losses and tend to reduce the disposition effect (Odean1998; Shapira & Venezia's, 2001;Ackert & Church, 2001;Dhar & Zhu 2006;Brown et al, 2006;Choe & Eom 2006;Seru, Shumway & Stoffman, 2010;Da Costa, Goulart, Cupertino, Macedo & Da Silva, 2013). On the contrary Richards et al, (2017) said that experience increases disposition effect as the investors tend to be overconfident.…”

“…Emotions are a threat for the investor and it hurts the disposition effect. Richards et al, (2017) states that the emotions of an investor affect the presence of the disposition effect. The emotion of the investor leads to more biased decision making.…”

Tres ensayos en Finanzas del Comportamiento

“…También en el ámbito de los mercados financieros, Ranguelova (2001) observa que el efecto disposición se concentra principalmente en acciones de gran capitalización, mientras las acciones situadas en el 40% inferior de la distribución según tamaño, muestran un efecto disposición inverso Kaustia (2010): los inversores mantienen sus ganancias y realizan sus pérdidas, poniendo así en duda que la aversión a las pérdidas sea una posible explicación del efecto disposición. Recientemente, Richards et al (2017) argumentan que una forma relativamente sencilla de reducir el efecto disposición en el mercado de valores es mediante el uso de órdenes stop loss, ya que éstos pueden automatizar una salida estratégica reduciendo el impulso del inversor. Además, Nolte (2012) (2005) en China.…”