Sign Matters: Stock Movement Based Trading Decisions of Private Investors

This paper studies the relation between the sign of recent returns (anup-down-pattern) and sell and buy decisions of private investors. For our comprehensive data set of Taiwanese private stock market investors we find two striking trading patterns:First, a stock pattern with predominantly positive days triggers significantly more tradesby private investorsthan a pattern with many negative days. Second, following positive days, privateinvestors sell proportionally more stocks than they buy. These results still hold when controlling for returns, absolute returns and stock index returns. To explain this behavior of simultaneously rising or falling buy and sell trades, we construct a simple behavioral model of potential sellersandbuyers. We assume that both groups initially have different expectationstowards their respective sharesand update these before their final decision while observing the price pattern. Together with the well-documented disposition effect, this model can explain the key results and also the observed gender differences.