IDEAS home Printed from https://ideas.repec.org/p/esi/discus/2004-28.html
   My bibliography  Save this paper

Illusion of control as a source of poor diversification: An experimental approach

Author

Listed:
  • Gerlinde Fellner

    ()

Abstract

This paper investigates factors influencing individual portfolio allocations with particular focus on the role of illusion of control. By forming their portfolio of two risky lotteries and one risk-less alternative, subjects are requested to reach a target investment profit, whereby equal diversification between the two risky lotteries is part of the solution space. Subjects however excessively invest in the lottery for which they can determine the outcome by rolling the die themselves indicating that they are prone to illusion of control. However, the effect vanishes with experience. In contrast, presenting random sequences of prior outcomes reduces biased investments. In line with the excessive extrapolation hypothesis, the more positive outcomes observed from past draws, the more likely is a positive prediction for this lottery, which is then followed by higher investment. Also, offering a default portfolio strongly determines final allocations.

Suggested Citation

  • Gerlinde Fellner, 2004. "Illusion of control as a source of poor diversification: An experimental approach," Papers on Strategic Interaction 2004-28, Max Planck Institute of Economics, Strategic Interaction Group.
  • Handle: RePEc:esi:discus:2004-28
    as

    Download full text from publisher

    File URL: ftp://papers.econ.mpg.de/esi/discussionpapers/2004-28.pdf
    Download Restriction: no

    References listed on IDEAS

    as
    1. Lucy Ackert & Narat Charupat & Bryan Church & Richard Deaves, 2006. "An experimental examination of the house money effect in a multi-period setting," Experimental Economics, Springer;Economic Science Association, vol. 9(1), pages 5-16, April.
    2. Richard H. Thaler & Shlomo Benartzi, 2001. "Naive Diversification Strategies in Defined Contribution Saving Plans," American Economic Review, American Economic Association, vol. 91(1), pages 79-98, March.
    3. Gur Huberman & Sheena Iyengar & Wei Jiang, 2007. "Defined Contribution Pension Plans: Determinants of Participation and Contributions Rates," Journal of Financial Services Research, Springer;Western Finance Association, vol. 31(1), pages 1-32, February.
    4. De Bondt, Werner F. M., 1998. "A portrait of the individual investor," European Economic Review, Elsevier, vol. 42(3-5), pages 831-844, May.
    5. Markus Glaser & Thomas Langer & Martin Weber, 2007. "On the Trend Recognition and Forecasting Ability of Professional Traders," Decision Analysis, INFORMS, vol. 4(4), pages 176-193, December.
    6. Sendhil Mullainathan & Richard H. Thaler, 2000. "Behavioral Economics," NBER Working Papers 7948, National Bureau of Economic Research, Inc.
    7. Gary Charness & Uri Gneezy, 2010. "Portfolio Choice And Risk Attitudes: An Experiment," Economic Inquiry, Western Economic Association International, vol. 48(1), pages 133-146, January.
    8. Huberman, Gur, 2001. "Familiarity Breeds Investment," Review of Financial Studies, Society for Financial Studies, vol. 14(3), pages 659-680.
    9. Werner F. M. De Bondt & Richard H. Thaler, 1994. "Financial Decision-Making in Markets and Firms: A Behavioral Perspective," NBER Working Papers 4777, National Bureau of Economic Research, Inc.
    10. Charles A. Holt & Susan K. Laury, 2002. "Risk Aversion and Incentive Effects," American Economic Review, American Economic Association, vol. 92(5), pages 1644-1655, December.
    11. Heath, Chip & Tversky, Amos, 1991. "Preference and Belief: Ambiguity and Competence in Choice under Uncertainty," Journal of Risk and Uncertainty, Springer, vol. 4(1), pages 5-28, January.
    12. De Bondt, Werner P. M., 1993. "Betting on trends: Intuitive forecasts of financial risk and return," International Journal of Forecasting, Elsevier, vol. 9(3), pages 355-371, November.
    13. Urs Fischbacher, 2007. "z-Tree: Zurich toolbox for ready-made economic experiments," Experimental Economics, Springer;Economic Science Association, vol. 10(2), pages 171-178, June.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Anat Bracha & Elke U. Weber, 2012. "A psychological perspective of financial panic," Public Policy Discussion Paper 12-7, Federal Reserve Bank of Boston.

    More about this item

    Keywords

    Investment decisions; Portfolio selection; Egocentric biases; Illusion of Control; Experimental economics;

    JEL classification:

    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • D80 - Microeconomics - - Information, Knowledge, and Uncertainty - - - General
    • G00 - Financial Economics - - General - - - General
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:esi:discus:2004-28. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Karin Richter). General contact details of provider: http://edirc.repec.org/data/mpiewde.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.