Dispositional Effect In Research

Chapter 3: Review of literature

INTRODUCTION:

This chapter describes previous researches done at domestic and international level on dispositional effect and theoretical analysis of how investor’s behavior is influenced by dispositional effect and acts as an empirical evidence for dispositional effect. Studies previously done:

A number of authors have investigated the dispositional effect and behavior of investors. Disposition effect was introduced by Shaffrin and Statsman for the first time in the year 1985. They described the reason behind as to why investors tend to sell winner stock too early and to hold on to loser stock for a long time. According to them, the reason behind this action of investors

Camerer published in Journal of Economic Behavior and Organization in the year 1998 under the name “Disposition effect in securities trading: an experimental analysis”. This research was conducted in New York Stock Exchange. Their analysis is based on prospect theory, that is, outcomes or profits are determined based on a reference point and investors are not ready to take risk in the in the gain domain, but investors are ready to take risk in the loss domain. They termed the difference in risk attitudes of investors for gains and losses as reflection effect. How reference point effects investor behavior was studied under different economic conditions. Earlier, Shaffrin and Statsman termed the effect of reference point as dispositional effect. This research paper was called an experimental analysis as the research analysis was not based on real market information and was based on investors behavior and decision making which varies with time, conditions and economic situation. This theory explains how reflection effect and reference point effects can together lead to disposition effect. Consider original purchase price of stock as P; the fall in value from P as L (loser stock); Consider further fall in price of stock as 2L; similarly, consider raise in value from purchase price as G(winner stock) and further increase in value from G as 2G .There is an assumption that people value gains and losses from the reference

A research was done Terrance Odean in 1998 under the name “Are Investors reluctant to Realize Their losses?”. Odean tested the disposition effect as said by Shefren and Statsman, that is the tendency to hold losing stock too long and sell winning stock too early. Odean also considered tax consequences. Odean analyzed trading transaction records at a brokerage house. These records revealed that gains are realized quickly by investors than the losses. Their behavior was not justified by portfolio performances. Odean found out that volume trading in stock market is excessive. Average returns of investors decreased due to brokerage. According to Odean. Odean also studied overconfidence of investors. Overconfident investor trade even when their expected returns are less than the cost of investment. Further, investor’s decision to sell security is more influenced by the past performance of the security than its future