Markus Glaser

Framing Effects in Stock Market Forecasts: The Difference Between Asking for Prices and Asking for Returns

In this study, we analyze whether individual expectations of stock returns are influenced by the specific elicitation mode (i.e. whether forecasters have to state future price levels or directly future returns). We thus examine whether there are framing effects in stock market forecasts. We present questionnaire responses of about 250 students from two German universities. Participants were asked to state median forecasts as well as confidence intervals for seven stock market time series. Using a between subject design, one half of the subjects was asked to state future price levels, the other group was directly asked for returns. The main results of our study can be summarized as follows. There is a highly significant framing effect. For upward sloping time series, the return forecasts given by investors who are asked directly for returns are significantly higher than those stated by investors who are asked for prices. For downward sloping time series, the return forecasts given by investors who are asked directly for returns are significantly lower than those stated by investors who are asked for prices. Furthermore, our data shows that subjects underestimate the volatility of stock returns, indicating overconfidence. As a new insight, we find that the strength of the overconfidence effect in stock market forecasts is highly significantly affected by the fact whether subjects provide price or return forecasts. Volatility estimates are lower (and the overconfidence bias is thus stronger) when subjects are asked for returns compared to price forecasts. Moreover, we find that financial education improves answers of subjects. The observed framing effect and the overconfidence bias are less pronounced for subjects with higher financial education.

On the Trend Recognition and Forecasting Ability of Professional Traders

Empirical research documents that temporary trends in stock price movements exist, so that riding a trend can be a profitable investment strategy. In this paper, we provide a thorough test of the trend recognition and forecasting ability of financial professionals who work in the trading room of a large bank, as well as those of novices (students). In an experimental study using a within-subject design, we analyze two ways of trend prediction that have analogues in the real world: probability estimates and confidence intervals (quantile estimates). We find that, depending on the type of task, either underconfidence (in probability estimates) or overconfidence (in confidence intervals) can be observed in the same trend prediction setting based on the same information. Furthermore, we find that the degree of overconfidence in both tasks is significantly positively correlated for all experimental subjects. These findings not only contribute to the literature on judgmental forecasting, but also have important implications for financial modeling. This paper demonstrates that a theorist has to be careful when deriving assumptions about the behavior of agents in financial markets from psychological findings.

Opening the Black Box: From an Individual Bias to Portfolio Performance

We suggest an experimental design that can help opening the black box of investor behavior by documenting a channel of how biases affect portfolio performance. We study two of the most important investor biases (overreaction and overconfidence), show how they are related, and analyze their consequences for portfolio choice and resulting portfolio performance in a controlled experimental setting with 104 participants. The main innovation of our study is that we go beyond just documenting a correlation between overconfidence on the one hand and investor behavior as well as resulting portfolio performance on the other hand. We empirically identify the precise channel (overreaction) which is proposed by some models. We find that subjects overreact on average, i.e. forecasts are too optimistic after positive signals and too pessimistic after negative signals. Furthermore, there is greater overreaction when subjects are more overconfident. Moreover, overreaction is related to risk taking in a portfolio choice task thereby adversely affecting portfolio efficiency.

Causal Evidence on Regular Internet Use and Stock Market Participation

Stock market participation rates have been quite stable or even dropped over the last years although more households regularly use the Internet. This observation contradicts earlier scientific evidence that the advent of the Internet increased stock market participation rates. Based on representative data from household panel surveys and with the help of two instruments for Internet usage we show that the Internet indeed has a positive and causal effect on stock market participation. Additionally, we present a solution of the puzzling observation above by showing that the positive effect of Internet usage on stock market participation is driven by households with a high degree of financial literacy and new Internet adopters were financially illiterate on average in recent years.

Run, Walk, or Buy? Financial Literacy, Dual-Process Theory, and Investment Behavior

Combining recent empirical findings on the usefulness of financial literacy for investment decisions and literature from psychology, we argue that the behavior of people with a high level of financial literacy might depend on the prevalence of the two thinking styles according to dual-process theories: intuition and cognition. We hypothesize that a high level of financial literacy might be overruled if subjects believe in trusting their hunches. We expect this interaction effect to be most pronounced when people are stressed. We test these hypotheses within an innovative experimental design which makes the participants experience the stock market development and their personal performance. Our results confirm the hypothesized interaction effect. We successfully replicate the findings in a follow-up experiment. Moreover, we show that this behavior has negative consequences on the performance and demonstrate that stress triggers the frequency of deviating from the personal investment strategy if people tend to act in an intuitive manner. We contribute to the existing literature by providing a further step to understand the mechanism of how and when personal characteristics affect behavior.

The Influence of Team Composition and Decision Processes on Investment Portfolios: The Case of Investment Clubs

Investment clubs offer the opportunity to form a well-diversified portfolio with private investors being invested in that portfolio. Nevertheless, many investment clubs hold undiversified portfolios. We hypothesize that the clubs’ composition and the characteristics of the decision making process have an impact on the number of stocks held by the club. We analyze this research question by combining the transaction records and basic characteristics of German investment clubs with a survey that measures the design of the clubs’ decision making process and the composition of their members. We find that clubs that desire to find a decision that is supported by a large fraction of club members have substantially fewer stocks in their portfolio. The analyses also reveal that the number of stocks decreases if preference aggregation becomes more difficult.

Wiki literacy: sandbox knowledge for the net

Wikis are not only a part of the internet but can be seen as a miniature and as an extended WWW. Therefore using a wiki helps training media literacy for the web on various levels and even goes beyond it. As a theoretical basis for this article we use the definition of media literacy by Baacke [1]. It is augmented by the aspect of media democracy.

Scale Dependence of Overconfidence in Stock Market Volatility Forecasts

In this study, we analyze whether volatility forecasts (judgmental confidence intervals) are influenced by the specific elicitation mode (i.e. whether forecasters have to state future price levels or directly future returns as upper and lower bounds). We present questionnaire responses of about 250 students from two German universities. Participants were asked to state median forecasts as well as confidence intervals for seven stock market time series. Using a between subject design, one half of the subjects was asked to state future price levels, the other group was directly asked for returns. Consistent with prior research we find that subjects underestimate the volatility of stock returns, indicating overconfidence. As a new insight, we find that the strength of the overconfidence effect in stock market forecasts is highly significantly affected by the fact whether subjects provide price or return forecasts. Volatility estimates are lower (and the overconfidence bias is thus stronger) when subjects are asked for returns compared to price forecasts.