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Herding, information uncertainty and investors' cognitive profile

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  • Beatriz Fernández
  • Teresa Garcia-Merino
  • Rosa Mayoral
  • Valle Santos
  • Eleuterio Vallelado
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    Abstract

    Purpose – The purpose of this paper is to analyze the interaction between the availability of financial information and individuals' cognitive profiles to explain investors' herding behavior. Design/methodology/approach – The authors designed and conducted an experiment to observe the behavior of subjects in three settings, each with a different level of information. Findings – Results confirm that a dependence relation exists between information, investors' behavioral biases and the herding phenomenon. Moreover, the experiment shows that information concerning the number of previous transactions in the market is particularly relevant to explain herding propensity among investors. The findings indicate that the cognitive profile of investors is more relevant as the availability of information increases and the number of previous transactions in the market is low. Research limitations/implications – Future research should examine further the best way to measure the individual's cognitive profile and its interaction with information limitation in financial markets. The presence of high levels of uncertainty favors herding behavior regardless of inter-individual differences, and only when the availability of information is high and the number of transactions is low does the subjects' cognitive profile explain the investors' herding behavior. Finally, it is observed that not all public information receives the same attention by investors. The attractiveness of public information requires further attention. Social implications – The herding phenomenon is difficult to anticipate because there are factors of a very diverse nature that intervene. Originality/value – The research described in this paper measures investors' cognitive profile to identify the interaction between availability of information, cognitive profile and herding.

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    Bibliographic Info

    Article provided by Emerald Group Publishing in its journal Qualitative Research in Financial Markets.

    Volume (Year): 3 (2011)
    Issue (Month): 1 (April)
    Pages: 7-33

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    Handle: RePEc:eme:qrfmpp:v:3:y:2011:i:1:p:7-33

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    Related research

    Keywords: Financial information; Individual behaviour; Investors; Uncertainty management;

    References

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    Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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    1. Jonathan E. Alevy & Michael S. Haigh & John A. List, 2007. "Information Cascades: Evidence from a Field Experiment with Financial Market Professionals," Journal of Finance, American Finance Association, vol. 62(1), pages 151-180, 02.
    2. Lakonishok, Josef & Shleifer, Andrei & Vishny, Robert W., 1992. "The impact of institutional trading on stock prices," Journal of Financial Economics, Elsevier, vol. 32(1), pages 23-43, August.
    3. Hirshleifer, David, 2001. "Investor Psychology and Asset Pricing," MPRA Paper 5300, University Library of Munich, Germany.
    4. Dennis Dittrich & Werner Güth & Boris Maciejovsky, 2001. "Overconfidence in Investment Decisions: An Experimental Approach," CESifo Working Paper Series 626, CESifo Group Munich.
    5. V. V. Chari & Patrick J. Kehoe, 2003. "Financial crises as herds: overturning the critiques," Staff Report 316, Federal Reserve Bank of Minneapolis.
    6. Oechssler, Jörg & Roider, Andreas & Schmitz, Patrick W., 2008. "Cognitive Abilities and Behavioral Biases," Sonderforschungsbereich 504 Publications 08-05, Sonderforschungsbereich 504, Universität Mannheim & Sonderforschungsbereich 504, University of Mannheim.
    7. Rabin, Matthew, 1997. "Psychology and Economics," Department of Economics, Working Paper Series qt8jd5z5j2, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
    8. Allen F. & Morris S. & Postlewaite A., 1993. "Finite Bubbles with Short Sale Constraints and Asymmetric Information," Journal of Economic Theory, Elsevier, vol. 61(2), pages 206-229, December.
    9. John R. Graham, 1999. "Herding among Investment Newsletters: Theory and Evidence," Journal of Finance, American Finance Association, vol. 54(1), pages 237-268, 02.
    10. Sushil Bikhchandani & Sunil Sharma, 2001. "Herd Behavior in Financial Markets," IMF Staff Papers, Palgrave Macmillan, vol. 47(3), pages 1.
    11. X. Frank Zhang, 2006. "Information Uncertainty and Stock Returns," Journal of Finance, American Finance Association, vol. 61(1), pages 105-137, 02.
    12. David Hirshleifer & Siew Hong Teoh, 2003. "Herd Behaviour and Cascading in Capital Markets: a Review and Synthesis," European Financial Management, European Financial Management Association, vol. 9(1), pages 25-66.
    13. Avery, Christopher & Zemsky, Peter, 1998. "Multidimensional Uncertainty and Herd Behavior in Financial Markets," American Economic Review, American Economic Association, vol. 88(4), pages 724-48, September.
    14. Banerjee, Abhijit V, 1992. "A Simple Model of Herd Behavior," The Quarterly Journal of Economics, MIT Press, vol. 107(3), pages 797-817, August.
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    Cited by:
    1. Daniel Traian Pelea & Miruna Mazurencu-Marinescu & Peter Nijkamp, 2013. "Herding Behaviour, Bubbles and Log Periodic Power Laws in Illiquid Stock Markets. A Case Study on the Bucharest Stock Exchange," Tinbergen Institute Discussion Papers 13-109/VIII, Tinbergen Institute.

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