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Entrepreneurial Under-Diversification: Over Optimism and Overconfidence

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  • Enrico Maria Cervellati

    ()
    (Department of Management, University of Bologna, Italy; Luiss Guido Carli, Italy)

  • Pierpaolo Pattitoni

    ()
    (Department of Management, University of Bologna, Italy; The Rimini Centre for Economic Analysis (RCEA), Italy)

  • Marco Savioli

    ()
    (The Rimini Centre for Economic Analysis (RCEA), Italy; Department of Economics and Statistics, University of Siena, Italy)

  • Rassoul Yazdipour

    ()
    (Academy of Behavioral Finance & Economics, USA)

Abstract

Past research shows that entrepreneurs often invest a large share of their personal wealth in their company, exposing themselves to idiosyncratic risk. In this paper, we focus on a possible explanation for this costly exposure, based on two behavioral biases: overconfidence and over optimism. Both these biases affect the very main variables of the risk-return analysis à la Markowitz. In particular, we find that if entrepreneurs perceive their private company to have a lower risk and a higher return than actual, they may overweight the company in their investment portfolios.

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Bibliographic Info

Paper provided by The Rimini Centre for Economic Analysis in its series Working Paper Series with number 09_13.

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Date of creation: Jan 2013
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Handle: RePEc:rim:rimwps:09_13

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  1. Pattitoni, Pierpaolo & Savioli, Marco, 2011. "Investment choices: Indivisible non-marketable assets and suboptimal solutions," Economic Modelling, Elsevier, vol. 28(6), pages 2387-2394.
  2. Tobias J. Moskowitz & Annette Vissing-Jørgensen, 2002. "The Returns to Entrepreneurial Investment: A Private Equity Premium Puzzle?," American Economic Review, American Economic Association, vol. 92(4), pages 745-778, September.
  3. Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, 03.
  4. Amos Tversky & Daniel Kahneman, 1979. "Prospect Theory: An Analysis of Decision under Risk," Levine's Working Paper Archive 7656, David K. Levine.
  5. John Heaton & Deborah Lucas, 2000. "Portfolio Choice and Asset Prices: The Importance of Entrepreneurial Risk," Journal of Finance, American Finance Association, vol. 55(3), pages 1163-1198, 06.
  6. Pattitoni, Pierpaolo & Petracci, Barbara & Potì, Valerio & Spisni, Massimo, 2013. "Cost of entrepreneurial capital and under-diversification: A Euro-Mediterranean perspective," Research in International Business and Finance, Elsevier, vol. 27(1), pages 12-27.
  7. Kerins, Frank & Smith, Janet Kiholm & Smith, Richard, 2004. "Opportunity Cost of Capital for Venture Capital Investors and Entrepreneurs," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 39(02), pages 385-405, June.
  8. Tobias J. Moskowitz & Annette Vissing-Jorgensen, 2002. "The Returns to Entrepreneurial Investment: A Private Equity Premium Puzzle?," NBER Working Papers 8876, National Bureau of Economic Research, Inc.
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