Hostname: page-component-89b8bd64d-ktprf Total loading time: 0 Render date: 2026-05-13T05:46:33.889Z Has data issue: false hasContentIssue false
  • English
  • Français

Focusing on volatility information instead of portfolio weights as an aid to investor decisions

Published online by Cambridge University Press:  14 March 2025

Christian Ehm ,
Christine Laudenbach  and
Martin Weber
Christian Ehm
Affiliation:
University of Mannheim, Mannheim, Germany
Christine Laudenbach*
Affiliation:
Goethe University Frankfurt, Frankfurt, Germany
Martin Weber
Affiliation:
University of Mannheim and CEPR London, Mannheim, Germany
*
laudenbach@finance.uni-frankfurt.de
Get access Rights & Permissions [Opens in a new window]

Abstract

When faced with the challenge of forming a portfolio containing a risky and a risk-free asset, investors tend to apply the same portfolio weights independently of the volatility of the risky asset. This “percentage heuristic” can lead to different levels of portfolio risk when the same investor is presented with a more or a less risky asset. Using four experiments, we show that asking investors to choose the return distribution for their portfolio while keeping the exact portfolio weights unknown leads to greater similarity in levels of portfolio volatility (across different levels of risk of the risky asset) than asking investors to choose this distribution while additionally facing the portfolio weights. Higher consistency in risk taking is obtained both between and within test subjects.

Keywords

Risk takingVolatility inadaptabilityAsset allocationExperience samplingRisk perception

JEL classification

G11: Portfolio Choice • Investment Decisions

Information

Type
Original Paper
Information
Experimental Economics , Volume 21 , Issue 2 , June 2018 , pp. 457 - 480
Copyright
Copyright © 2017 Economic Science Association

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

Article purchase

Temporarily unavailable

References

Barberis, N, Huang, M, & Thaler, RH (2006). Individual preferences, monetary gambles, and stock market participation: A case for narrow framing. The American Economic Review, 96, 1069–1090. 10.1257/aer.96.4.106910.1257/aer.96.4.1069CrossRefGoogle Scholar
Barr, MS, Mullainathan, S, & Shafir, E (2008). Behaviorally informed financial services regulation, Washington, DC: New America Foundation.Google Scholar
Benartzi, S, & Thaler, RH (2001). Naive diversification strategies in defined contribution saving plans. American Economic Review, 91(1), 79–98. 10.1257/aer.91.1.7910.1257/aer.91.1.79CrossRefGoogle Scholar
Berinsky, AJ, Huber, GA, & Lenz, GS (2012). Evaluating online labor markets for experimental research: Amazon.com’s Mechanical Turk. Political Analysis, 20(3), 351–368. 10.1093/pan/mpr057CrossRefGoogle Scholar
Bradbury, M, Hens, T, & Zeisberger, S (2015). Improving investment decisions with simulated experience. Review of Finance, 19(3), 1019–1052. 10.1093/rof/rfu02110.1093/rof/rfu021CrossRefGoogle Scholar
Camerer, CF, & Hogarth, RM (1999). The effects of financial incentives in experiments: A review and capital-labor-production framework. Journal of Risk and Uncertainty, 19(1–3), 7–42. 10.1023/A:100785060512910.1023/A:1007850605129CrossRefGoogle Scholar
Chevalier, J, & Ellison, G (1997). Risk taking by mutual funds as a response to incentives. Journal of Political Economy, 105, 1167–1200. 10.1086/51638910.1086/516389CrossRefGoogle Scholar
Choi, JJ, Laibson, D, & Madrian, BC (2009). Mental accounting in portfolio choice: Evidence from a Flypaper effect. American Economic Review, 99(5), 2085–2095. 10.1257/aer.99.5.2085CrossRefGoogle ScholarPubMed
Clifford, C. P., Fulkerson, J. A., Bradford, J. D., and Waldman, S. (2013). Risk and fund flows, Working Paper.Google Scholar
Cronqvist, H, & Siegel, S (2014). The genetics of investment biases. Journal of Financial Economics, 113(2), 215–234. 10.1016/j.jfineco.2014.04.004CrossRefGoogle Scholar
DellaVigna, S (2009). Psychology and economics: Evidence from the field. Journal of Economic Literature, 47(2), 315–372. 10.1257/jel.47.2.315CrossRefGoogle Scholar
DeMiguel, V, Garlappi, L, & Uppal, R (2009). Optimal versus naive diversification: How inefficient is the 1/N portfolio strategy?. Review of Financial Studies, 22(5), 1915–1953. 10.1093/rfs/hhm075CrossRefGoogle Scholar
Dorn, D, & Huberman, G (2005). Talk and action: What individual investors say and what they do. Review of Finance, 9, 437–481. 10.1007/s10679-005-4997-zCrossRefGoogle Scholar
Dorn, D, & Huberman, G (2010). Preferred risk habitat of individual investors. Journal of Financial Economics, 97(1), 155–173. 10.1016/j.jfineco.2010.03.01310.1016/j.jfineco.2010.03.013CrossRefGoogle Scholar
Ehm, C, Kaufmann, C, & Weber, M (2014). Volatility inadaptability: Investors care about risk, but can’t cope with volatility. Review of Finance, 18, 1387–1423. 10.1093/rof/rft03210.1093/rof/rft032CrossRefGoogle Scholar
Parliament, European and Council, European (2004). Markets in financial instruments directive (2004/39/EC). Official Journal of the European Union 2004.Google Scholar
Parliament, European and Council, European (2009). Undertakings for collective investment in transferable securities (UCITS) directive (2009/65/EC). Official Journal of the European Union 2009.Google Scholar
Frijns, B, Koellen, E, & Lehnert, T (2008). On the determinants of portfolio choice. Journal of Economic Behavior & Organization, 66, 373–386. 10.1016/j.jebo.2006.04.00410.1016/j.jebo.2006.04.004CrossRefGoogle Scholar
Gigerenzer, G, & Gaissmaier, W (2011). Heuristic decision making. Annual Review of Psychology, 62, 451–482. 10.1146/annurev-psych-120709-14534610.1146/annurev-psych-120709-145346CrossRefGoogle ScholarPubMed
Gneezy, U, & Potters, J (1997). An experiment on risk taking and evaluation periods. Quarterly Journal of Economics, 112(2), 631–645. 10.1162/003355397555217CrossRefGoogle Scholar
Goldstein, DG, Johnson, EJ, & Sharpe, WF (2008). Choosing outcomes versus choosing products: Consumer-focused retirement investment advice. Journal of Consumer Research, 35(3), 440–456. 10.1086/58956210.1086/589562CrossRefGoogle Scholar
Goldstein, DG, & Rothschild, D (2014). Lay understanding of probability distributions. Judgment and Decision Making, 9(1), 1–14.10.1017/S1930297500004940CrossRefGoogle Scholar
Hogarth, RM, & Soyer, E (2011). Sequentially simulated outcomes: Kind experience versus non-transparent description. Journal of Experimental Psychology: General, 140, 434–463. 10.1037/a002326510.1037/a0023265CrossRefGoogle Scholar
Jacobs, H, Müller, S, & Weber, M (2014). How should individual investors diversify? An empirical evaluation of alternative asset allocation policies. Journal of Financial Markets, 19, 62–85. 10.1016/j.finmar.2013.07.00410.1016/j.finmar.2013.07.004CrossRefGoogle Scholar
Kaufmann, C, & Weber, M (2013). Sometimes less is more—The influence of information aggregation on investment decisions. Journal of Economic Behavior & Organization, 95, 20–33. 10.1016/j.jebo.2013.08.00510.1016/j.jebo.2013.08.005CrossRefGoogle Scholar
Kaufmann, C, Weber, M, & Haisley, EC (2013). The role of experience sampling and graphical displays on one’s investment risk appetite. Management Science, 59(2), 323–340. 10.1287/mnsc.1120.160710.1287/mnsc.1120.1607CrossRefGoogle Scholar
Kaustia, M, & Knuepfer, S (2008). Do investors overweight personal experience? Evidence from IPO subscriptions. Journal of Finance, 63(6), 2679–2702. 10.1111/j.1540-6261.2008.01411.xCrossRefGoogle Scholar
Laudenbach, C., Loos, B. and Pirschel, J. 2017. Recent experiences and risk taking: Trading responses to changes in the local environment. Working Paper.10.2139/ssrn.2902088CrossRefGoogle Scholar
Lejarraga, T (2010). When experience is better than description: Time delays and complexity. Journal of Behavioral Decision Making, 23(1), 100–116. 10.1002/bdm.66610.1002/bdm.666CrossRefGoogle Scholar
Malmendier, U, & Nagel, S (2011). Depression babies: Do Macroeconomic experiences affect risk taking?. The Quarterly Journal of Economics, 126(1), 373–416. 10.1093/qje/qjq004CrossRefGoogle Scholar
Markowitz, H (1952). Portfolio selection. Journal of Finance, 7(1), 77–91.Google Scholar
Merkle, C. (2017). The curious case of negative volatility, Working Paper.10.2139/ssrn.2841651CrossRefGoogle Scholar
Nosic, A, & Weber, M (2010). How riskily do I invest? The role of risk attitudes, risk, perceptions, and overconfidence. Decision Analysis, 7(3), 282–301. 10.1287/deca.1100.017810.1287/deca.1100.0178CrossRefGoogle Scholar
Rand, DG (2012). The promise of Mechanical Turk: How online labor markets can help theorists run behavioral experiments. Journal of Theoretical Biology, 299, 172–179. 10.1016/j.jtbi.2011.03.004CrossRefGoogle ScholarPubMed
Schooley, DK, & Worden, DD (1996). Risk aversion measures: Comparing attitudes and asset allocation. Financial Services Review, 5(2), 87–99. 10.1016/S1057-0810(96)90003-7CrossRefGoogle Scholar
Sharpe, WF (1964). Capital asset prices: A theory of market equilibrium under conditions of risk. Journal of Finance, 19(3), 425–442.Google Scholar
Sharpe, WF (1966). Mutual fund performance. The Journal of Business, 39(1), 119–138. 10.1086/294846CrossRefGoogle Scholar
Sirri, ER, & Tufano, P (1998). Costly search and mutual fund flows. Journal of Finance, 53, 1589–1622. 10.1111/0022-1082.0006610.1111/0022-1082.00066CrossRefGoogle Scholar
Thaler, R (1985). Mental accounting and consumer choice. Marketing Science, 4(3), 199–214. 10.1287/mksc.4.3.19910.1287/mksc.4.3.199CrossRefGoogle Scholar
Thaler, RH (1999). Mental accounting matters. Journal of Behavioral Decision Making, 12(3), 183–206. 10.1002/(SICI)1099-0771(199909)12:3<183::AID-BDM318>3.0.CO;2-F10.1002/(SICI)1099-0771(199909)12:3<183::AID-BDM318>3.0.CO;2-F3.0.CO;2-F>CrossRefGoogle Scholar
Tobin, J (1958). Liquidity preference as behavior towards risk. Review of Economic Studies, 25(2), 65–86. 10.2307/2296205CrossRefGoogle Scholar
van Rooij, M, Lusardi, A, & Alessie, R (2011). Financial literacy and stock market participation. Journal of Financial Economics, 101(2), 449–472. 10.1016/j.jfineco.2011.03.00610.1016/j.jfineco.2011.03.006CrossRefGoogle Scholar
Vlaev, I, Chater, N, & Stewart, N (2007). Financial prospect relativity: Context effects in financial decision-making under risk. Journal of Behavioral Decision Making, 20, 273–304. 10.1002/bdm.55510.1002/bdm.555CrossRefGoogle Scholar