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Disposition Matters: Volume, Volatility and Price Impact of a Behavioral Bias

By Massimo Massa


In this paper, we estimate the behavioral component of the Grinblatt and Han (2002) model and deriveseveral testable implications about the expected relationship between the preponderance of disposition-prone investors in a market and volume, volatility and stock returns. To do this, we use a large sample ofindividual accounts over a six-year period in the 1990`s in order to identify investors who are subject to thedisposition effect. We then use their trading behavior to construct behavioral factors. We show that whenthe fraction of "irrational" investor purchases in a stock increases, the unexplained portion of the marketprice of the stock decreases. We further show that statistical exposure to a disposition factor explainscross-sectional differences in daily returns, controlling for a host of other factors and characteristics. Theevidence is consistent with the hypothesis that trade between disposition-prone investors and theircounter-parties impact relative prices.

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