Thomas Langer

Rational Decision Making

What decision analysis is about.- Structuring the decision problem.- Generating objectives and hierarchies.- Generating and preselecting alternatives.- Decision making under certainty with one objective.- Decision making under certainty and with multiple objectives: multiattribute value functions.- The generation of probabilities.- Simulation of an objective variables probability distribution.- Decisions under risk and one objective.- Decision under risk: incomplete information and multiple objectives.- Time preferences under certain expectations.- Group decisions.- Descriptive aspects of decision making.

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.

How psychological framing affects economic market prices in the lab and field

A fundamental debate in social sciences concerns how individual judgments and choices, resulting from psychological mechanisms, are manifested in collective economic behavior. Economists emphasize the capacity of markets to aggregate information distributed among traders into rational equilibrium prices. However, psychologists have identified pervasive and systematic biases in individual judgment that they generally assume will affect collective behavior. In particular, recent studies have found that judged likelihoods of possible events vary systematically with the way the entire event space is partitioned, with probabilities of each of N partitioned events biased toward 1/N. Thus, combining events into a common partition lowers perceived probability, and unpacking events into separate partitions increases their perceived probability. We look for evidence of such bias in various prediction markets, in which prices can be interpreted as probabilities of upcoming events. In two highly controlled experimental studies, we find clear evidence of partition dependence in a 2-h laboratory experiment and a field experiment on National Basketball Association (NBA) and Federation Internationale de Football Association (FIFA World Cup) sports events spanning several weeks. We also find evidence consistent with partition dependence in nonexperimental field data from prediction markets for economic derivatives (guessing the values of important macroeconomic statistics) and horse races. Results in any one of the studies might be explained by a specialized alternative theory, but no alternative theories can explain the results of all four studies. We conclude that psychological biases in individual judgment can affect market prices, and understanding those effects requires combining a variety of methods from psychology and economics.

Business credit information sharing and default risk of private firms.

We investigate whether and how business credit information sharing helps to better assess the default risk of private firms. Private firms represent an ideal testing ground because they are smaller, more informationally opaque, riskier, and more dependent on trade credit and bank loans than public firms. Based on a representative panel dataset that comprises private firms from all major industries, we find that business credit information sharing substantially improves the quality of default predictions. The improvement is stronger for older firms and those with limited liability, and depends on the sharing of firms’ payment history and the number of firms covered by the local credit bureau office. The value of soft business credit information is higher for smaller and less distant firms. Furthermore, in spatial and industry analyses we show that the higher the value of business credit information the lower the realized default rates. Our study highlights the channel through which business credit information sharing adds value and the factors that influence its strength. JEL classification: D82; G21; G32; G33

Impact of Presentation Format and Self-Reported Risk Aversion on Revealed Skewness Preferences

This paper reports the results of an experiment on the revealed preference for skewness in a comparison of continuous return distributions. We find that revealed preferences are highly sensitive to the way asset risks are communicated. Whereas probability density functions lead to a pronounced preference for left-skewed distributions, the opposite is true for cumulative distribution functions. Systematic misperceptions of the variance cannot explain the sensitivity of preferences to the presentation format. Part of the preference for positive skewness when risks are communicated through probability density functions is due to a systematic misestimation of the expected return. We also find that self-reported risk aversion, a measure of risk attitude commonly used in practice, is a valuable predictor of skewness preferences. Individuals that judge themselves as more risk averse show a stronger preference for right skewness.

Wie werden Kreditsicherheiten in der Praxis eingesetzt? - Ein Überblick über empirische Befunde

Der Beitrag gibt einen berblick ber den aktuellen Stand der empirischen Forschung zur Kreditbesicherung. Demnach werden umso eher Kreditsicherheiten gestellt, (a) je j nger und je kleiner das Kredit nachfragende Unternehmen ist, (b) je l nger die Kreditlaufzeit und je h her der Kreditbetrag sind, (c) je geringer der Wettbewerb am Bankenmarkt und je schlechter die gesamtwirtschaftliche Lage ist. Mehrere Studien zeigen, dass besicherte Kredite h here Zinss tze aufweisen. Hausbanken scheinen mehr Sicherheiten zu halten als andere Kreditgeber. Es werden offenbar deutlich h ufiger Sicherheiten aus dem Unternehmensals aus dem Privatverm gen gestellt. Noch nicht hinreichend gekl rt ist, ob eine substitutive oder komplement re Beziehung zwischen Sicherheiten aus dem Unternehmensverm gen oder anderem Verm gen besteht, z. B. aus dem Privatverm gen. Insgesamt st tzen die empirischen Ergebnisse nicht die These, dass Kreditsicherheiten dazu dienen, besser zwischen „guten“ und „schlechten“ Kreditnehmern unterscheiden zu k nnen (Sortierungsoder Selbstselektionsfunktion). Teilweise gest tzt wird die These, dass Sicherheiten die Anreize des Schuldners zur Bedienung des Kredits verbessern. Das l sst allerdings eher Sicherheiten aus dem Privatverm gen erwarten. Am ehesten l sst sich noch die These vertreten, dass Gl ubiger Sicherheiten aus dem Unternehmensverm gen bestellen, wenn sie Interessenkonflikte mit anderen Kreditgebern bef rchten.

What are Investors Willing to Pay to Customize Their Investment Product

Even though buy-and-hold (B&H) investment strategies can take the risk tolerance of an investor into account by specifying a suitable stock proportion, the outcome profiles of B&H strategies are restricted to a specific class of return distributions. For investors with particular risk preferences, further customization should thus provide additional value. The objective of this paper is to investigate the strength of preference for such customized distributions and to draw conclusions about the demand for personalized investment products. In two experimental studies, 256 participants could adjust the return distribution of an initially chosen B&H investment by using an interactive software program. Our main finding is that most investors make extensive use of the customization option and many are willing to pay a substantial fee for this additional flexibility. We further find that the willingness to pay for customization is lower if the fee is integrated into the display of the return distribution, making its impact on final returns more obvious. We also observe that investors can be clustered into distinct subgroups via their adjustment patterns, but individually elicited prospect theory parameters are barely able to explain and predict these adjustments. As a robustness check, we also survey real investors at an investors fair to compare their preferences with those of our main pool of student subjects. We find that the willingness to pay for customization is slightly lower for these real investors and the main effect of fee integration is also less pronounced. In summary, we observe a strong willingness to pay for additional flexibility even though the actual benefits of customization vary markedly according to the individual. In many cases the accepted fees are so high that standard B&H strategies stochastically dominate the customized distributions after fee integration. This paper was accepted by Peter Wakker, decision analysis.

In Equations We Trust? Formula Knowledge Effects on the Exponential Growth Bias in Household Finance Decisions

Exponential growth effects play a major role in many household finance decisions. A systematic bias in dealing with exponential growth can lead to poor savings and debt decisions. In this paper, we extend previous research on the exponential growth bias in the savings and debt domains and provide a first experimental link between these two important fields of consumer financial decision making. We develop a measure for the exponential growth bias that naturally extends over different domains and parameter settings, and we explore the ramifications of being acquainted with the basic formula of exponential savings growth. Specifically, we analyze whether such formula knowledge helps only in calculating simple compound interest scenarios with a pocket calculator or if it provides benefits that go beyond this narrow field of application. We observe that—even without a pocket calculator—individuals who know the compound interest formula provide less biased estimates for problems from the savings domain and als...

Finanzmarktkrise und Bankenimage – was Sparer über Einlagensicherheit wissen und wie sie Banken (ein)schätzen

Die jungste Finanzmarktkrise ist, von realen Ursachen ausgehend, zu einer umfassenden Vertrauenskrise geworden. Ein weitgehender Vertrauensverlust seitens der Sparer kann grundsatzlich gravierende Konsequenzen haben. So ist seit Diamond/Dybvig (1983) bekannt, dass selbst ohne reale Grunde ein Bank-Run entstehen kann. In einer Situation, in der viele Banken Verluste erlitten haben, wachst diese Gefahr erheblich. Und in der Tat wurde ein Bank-Run beispielsweise bei der britischen Bank Northern Rock beobachtet (BBC News, 2007); eine systemgefahrdende Ansteckung ist davon allerdings nicht ausgegangen – vermutlich weil Regierungen mit weitreichenden Zusicherungen an Sparer rechtzeitig reagiert haben.