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Reference Point Adaptation: Tests in the Domain of Security Trading

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  • Arkes, Hal
  • Hirshleifer, David
  • Jiang, Danling
  • Lim, Sonya

Abstract

According to prospect theory (Kahneman & Tversky, 1979), gains and losses are measured from current wealth, which serves as a reference point. We attempted to ascertain to what extent the reference point shifts following gains or losses. In questionnaire studies we asked subjects what stock price today will generate the same utility as a previous change in a stock price. From participants’ responses we calculated the magnitude of reference point adaptation, which was significantly greater following a gain than following a loss of equivalent size. We also found the asymmetric adaptation of gains and losses persisted when a stock was included within a portfolio rather than being considered individually. In studies using financial incentives within the Becker, DeGroot, and Marschak (1964) procedure, we again noted faster adaptation of the reference point to gains than losses. We related our findings to several aspects of asset pricing and investor behavior.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 4259.

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Date of creation: 04 May 2006
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Handle: RePEc:pra:mprapa:4259

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Keywords: Prospect theory; reference point; asset pricing; security trading;

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References

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Citations

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Cited by:
  1. Arkes, Hal & Hirshleifer, David & Jiang, Danling & Lim, Sonya, 2007. "Prospect Theory and Reference Point Adaptation: Evidence from the US, China, and Korea," MPRA Paper 4009, University Library of Munich, Germany.
  2. Lorenzo Masiero & David A. Hensher, 2010. "Shift of reference point and implications on behavioral reaction to gains and losses," Quaderni della facoltà di Scienze economiche dell'Università di Lugano, USI Università della Svizzera italiana 1005, USI Università della Svizzera italiana.
  3. Arvid Hoffmann & Sam Henry & Nikos Kalogeras, 2013. "Aspirations as reference points: an experimental investigation of risk behavior over time," Theory and Decision, Springer, Springer, vol. 75(2), pages 193-210, August.
  4. Alexandru Cojocaru, 2011. "Inequality and well-being in transition economies: A non-experimental test of inequality aversion," Working Papers, ECINEQ, Society for the Study of Economic Inequality 238, ECINEQ, Society for the Study of Economic Inequality.
  5. DeWeaver, Mark A. & Shannon, Randall, 2010. "Waning vigilance and the disposition effect: Evidence from Thailand on individual investor decision making," Journal of Behavioral and Experimental Economics (formerly The Journal of Socio-Economics), Elsevier, Elsevier, vol. 39(1), pages 18-23, January.
  6. Lee, Carmen & Kräussl, Roman & Lucas, André & Paas, Leo, 2010. "Why do investors sell losers? How adaptation to losses affects future capitulation decisions," CFS Working Paper Series, Center for Financial Studies (CFS) 2010/23, Center for Financial Studies (CFS).
  7. Jiaxi Peng & Danmin Miao & Wei Xiao, 2013. "Why are gainers more risk seeking," Judgment and Decision Making, Society for Judgment and Decision Making, Society for Judgment and Decision Making, vol. 8(2), pages 150-160, March.
  8. Katrine Hjorth & Mogens Fosgerau, 2011. "Loss Aversion and Individual Characteristics," Environmental & Resource Economics, European Association of Environmental and Resource Economists, European Association of Environmental and Resource Economists, vol. 49(4), pages 573-596, August.
  9. Mattos, Fabio & Poirier, Jamie, 2013. "Formation and adaptation of reference prices in grain marketing: An experimental study," Working Papers, Structure and Performance of Agriculture and Agri-products Industry (SPAA) 148591, Structure and Performance of Agriculture and Agri-products Industry (SPAA).
  10. Rosenblatt-Wisch, Rina, 2008. "Loss aversion in aggregate macroeconomic time series," European Economic Review, Elsevier, Elsevier, vol. 52(7), pages 1140-1159, October.
  11. Ayako Suzuki & Koichi Kume, 2008. "Aging, Probability Weighting, and Reference Point Adoption: An Experimental Study," ISER Discussion Paper, Institute of Social and Economic Research, Osaka University 0720, Institute of Social and Economic Research, Osaka University.
  12. Malcolm Baker & Jeffrey Wurgler, 2012. "Dividends as Reference Points: A Behavioral Signaling Approach," NBER Working Papers 18242, National Bureau of Economic Research, Inc.
  13. repec:dgr:uvatin:2008112 is not listed on IDEAS
  14. Baucells, Manel & Weber, Martin & Welfens, Frank, 2007. "Reference Point Formation Over Time: A Weighting Function Approach," Sonderforschungsbereich 504 Publications, Sonderforschungsbereich 504, Universität Mannheim;Sonderforschungsbereich 504, University of Mannheim 07-43, Sonderforschungsbereich 504, Universität Mannheim;Sonderforschungsbereich 504, University of Mannheim.
  15. Bernasconi, Michele & Corazzini, Luca & Seri, Raffaello, 2014. "Reference dependent preferences, hedonic adaptation and tax evasion: Does the tax burden matter?," Journal of Economic Psychology, Elsevier, Elsevier, vol. 40(C), pages 103-118.
  16. Mattos, Fabio & Garcia, Philip, 2009. "The Effect of Prior Gains and Losses on Current Risk-Taking Using Quantile Regression," 2009 Conference, April 20-21, 2009, St. Louis, Missouri, NCCC-134 Conference on Applied Commodity Price Analysis, Forecasting, and Market Risk Management 53035, NCCC-134 Conference on Applied Commodity Price Analysis, Forecasting, and Market Risk Management.
  17. Camille Magron & Maxime Merli, 2012. "Stocks repurchase and sophistication of individual investors," Working Papers of LaRGE Research Center, Laboratoire de Recherche en Gestion et Economie (LaRGE), Université de Strasbourg 2012-02, Laboratoire de Recherche en Gestion et Economie (LaRGE), Université de Strasbourg.
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  19. Arkes, Hal R. & Hirshleifer, David & Jiang, Danling & Lim, Sonya S., 2010. "A cross-cultural study of reference point adaptation: Evidence from China, Korea, and the US," Organizational Behavior and Human Decision Processes, Elsevier, Elsevier, vol. 112(2), pages 99-111, July.

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