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Belief in Mean Reversion and the Disposition Effect: An Experimental Test

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  • Peiran Jiao

Abstract

The disposition effect refers to investors' tendency to disproportionately sell more winning than losing assets. The literature mostly offered indirect evidence regarding its cause. Using a lab experiment, the author directly evaluates the two competing behavioral mechanisms for this effect: belief in mean reversion and dual risk attitudes of prospect theory. The participants were endowed with some hypothetical assets, observed price charts, and made selling decisions. Sixty-one percent of them exhibited significant disposition effect. The author elicited the participants' risk attitude parameters and beliefs about price movements, and found that beliefs, especially those in the loss domain, but not the dual risk attitudes, significantly contributed to the between-subject variation of the disposition effect. The results from a goodness-of-fit test also favor the belief mechanism.

Suggested Citation

  • Peiran Jiao, 2017. "Belief in Mean Reversion and the Disposition Effect: An Experimental Test," Journal of Behavioral Finance, Taylor & Francis Journals, vol. 18(1), pages 29-44, January.
    • Handle: RePEc:taf:hbhfxx:v:18:y:2017:i:1:p:29-44
    DOI: 10.1080/15427560.2017.1274754
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    Cited by:

    1. Bachmann, Kremena, 2024. "Do you have a choice?: Implications for belief updating and the disposition effect," Journal of Economic Psychology, Elsevier, vol. 102(C).
    2. Huber, Christoph & Huber, Jürgen & Kirchler, Michael, 2022. "Volatility shocks and investment behavior," Journal of Economic Behavior & Organization, Elsevier, vol. 194(C), pages 56-70.
    3. Corneille, Olivier & De Winne, Rudy & D’Hondt, Catherine, 2018. "The disposition effect does not survive disclosure of expected price trends," Journal of Behavioral and Experimental Finance, Elsevier, vol. 20(C), pages 80-91.
    4. Janssen, Dirk-Jan & Li, Jiangyan & Qiu, Jianying & Weitzel, Utz, 2020. "The disposition effect and underreaction to private information," Journal of Economic Dynamics and Control, Elsevier, vol. 113(C).
    5. Vanessa Martins Valcanover & Igor Bernardi Sonza & Wesley Vieira da Silva, 2020. "Behavioral Finance Experiments: A Recent Systematic Literature Review," SAGE Open, , vol. 10(4), pages 21582440209, November.
    6. Stephen L Cheung & Nathan Rogut, 2024. "Portfolio framing and diversification in a disposition effect experiment," Working Papers 2024-17, University of Sydney, School of Economics.
    7. Ballestra, Luca Vincenzo & Guizzardi, Andrea & Mazzucchelli, Lorenzo, 2024. "Integrating narrow and wide framing disposition effect: A novel approach incorporating perceived risk and realized asset performance," Journal of Economic Behavior & Organization, Elsevier, vol. 220(C), pages 422-432.
    8. Kahya, Evrim Hilal & Ekinci, Cumhur, 2022. "Disposition bias among Borsa Istanbul investors: What do we know about type, size and trading frequency?," Journal of Behavioral and Experimental Finance, Elsevier, vol. 35(C).
    9. Pedro Gonzalez-Fernandez, 2024. "Belief Bias Identification," Papers 2404.09297, arXiv.org, revised Nov 2024.

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