Do behavioral needs influence the trading activity of individual investors? Evidence from repeated natural experiments

Multiple natural experiments of large jackpot lotteries in Taiwan are used to document a substitution effect between individual investor trading and lottery buying. We establish five key findings. First, when the jackpot exceeds 500 million Taiwan dollars (about 15 million U.S. dollars), the number of shares traded by individual investors decreases by about 7% among stocks with high individual trading fraction, low market capitalization, high past returns, and high past turnover. Second, our approach reveals that the substitution effect is stronger among stocks with lottery features, with a decline in trading of about 9% among stocks with high return volatility and skewness. Third, the magnitude of the documented substitution effect increases monotonically with the jackpot. Fourth, firm-level trading activity reacts negatively to lottery drawings, and is statistically significant for a sizable number of firms. Finally, the aggregate number of shares traded by individual investors declines by 6% with lottery offerings. We attribute the substitution effect exemplified here to behavioral trading needs of individual investors, such as entertainment, sensation seeking, and gambling, and it appears consistent with the wider predictions of behavioral economics and finance.postprintThe 2010 International Symposium on Financial Engineering and Risk Management (FERM 2010), Taipei, Taiwan, 10-12 June 2010

Overconfident Individual Day Traders: Evidence from the Taiwan Futures Market

A specific day-trading policy in Taiwan futures market allows an investigation of the performance of day traders. Since October 2007, investors who characterize themselves as “day traders” by closing their day-trade positions on the same day enjoy a 50% reduction in the initial margin. Because we can identify day traders ex ante, we have a laboratory to explore trading behavior without the contamination of potential behavioral biases. Our results show that the 3470 individual day traders in the sample incur on average a significant loss of 61,500 (26,700) New Taiwan dollars after (before) transaction costs over October 2007–September 2008. This implies that day traders are not only overconfident about the accuracy of their information but also biased in their interpretations of information. We also find that excessive trading is hazardous only to the overconfident losers, but not to the winners. Last, we provide evidence that more experienced individual investors exhibit more aggressive day trading behavior, although they do not learn their types or gain superior trading skills that could mitigate their losses.postprin

Skewness, Individual Investor Preference, and the Cross-section of Stock Returns

We find a robust negative relation between skewness/lottery-like features, proxied by maximum return (MAX) over the last month, and future returns for stocks preferred by individual investors. This negative relation is nonexistent for the rest of stocks. We identify stocks preferred by individual investors through bundling ten stock characteristics associated with their stock preferences. The negative relation between MAX and future return is produced by the stocks preferred by individuals that account for less than 5% of the overall market capitalization. Our results are robust to alternative definitions of MAX and lottery-like features such as total, idiosyncratic, and expected skewness

Financial inclusion for stability: access to bank deposits and the deposit growth during the Global Financial Crisis

Title on paper: Financial Inclusion for Stability: Access to Bank Deposits and the Deposit Growth during the Global Financial CrisisSession: 66 -Asset PricingIn crisis times, depositors get anxious, can run on banks, and withdraw their deposits. Correlated deposit withdrawals of bank deposits could be mitigated if bank deposits are more diversified, i.e. held by more individuals. This paper examines the link between a broader access to bank deposits prior to the 2008 crisis and the dynamics of bank deposit growth in the crisis, while controlling for relevant covariates. Employing the proxies of Honohan (2008) for access to deposits and of Demirguc-Kunt and Klapper (2012) for the use of bank deposits, the authors find that greater access to bank deposits can make the deposit funding base of banks more resilient in times of financial stress. Policy efforts to enhance financial stability should thus focus not only on macroprudential regulation, but also recognize the positive effect of broader access to bank deposits on financial stability.postprin

Informational Content of Options Trading on Acquirer Announcement Return

This study examines the informational content of options trading on acquirer announcement returns. We show that implied volatility spread predicts positively on the cumulative abnormal return (CAR), and implied volatility skew predicts negatively on the CAR. The predictability is much stronger around actual merger and acquisition (M&A) announcement days, compared with pseudo-event days. The prediction is weaker if pre-M&A stock price has incorporated part of the information, but stronger if acquirer’s options trading is more liquid. Finally, we find that higher relative trading volume of options to stock predicts higher absolute CARs. The relation also exists among the target firms.postprin

Does short selling discipline overinvestment?

We explore the disciplining effect of short selling on overinvestment. Firms with more stock lending supply have higher abnormal announcement stock returns of acquiring firms, lower subsequent abnormal capital investments, and longer spells between large investments, and higher subsequent Tobin’s Q and ROA. Alleviating the endogeneity concern, our multivariate difference-in-difference analysis shows that this disciplinary force of lending supply is more effective for firms in the Regulation SHO-PILOT Program. We identify two mechanisms through which short selling disciplines managers: managers’ wealth-performance sensitivity and likelihood of hostile takeovers. Additionally, the disciplinary force only exists for non-financial-constrained firms and nonall-cash M&A deals.postprin

Does short selling discipline managerial empire building?

The Conference program's website is located at http://www.fma.org/Tokyo/TokyoProgramPrelim.htmSession 20 - Monitors and Governance QualityThis paper explores the discipline effect of short selling on managerial empire building. Employing short-selling data from 2002-2011, we document a negative association between the stock lending supply and the subsequent abnormal capital investment. We also find a positive association between the lending supply and the mergers and acquisitions announcement returns of acquiring firms. Firms with higher lending supplies also have higher Tobin’s Q in the subsequent year. In addition, the discipline effect is stronger for firms with higher managers’ wealth-performance sensitivity and with lower financial constraints, and for stock-financing acquisition deals. Alleviating the endogeneity concern, our multivariate difference-in-difference analysis shows that the lending supply is a more effective discipline force for firms that are in the Regulation SHO-Pilot Program during 2005 to 2007.postprin

Governance through trading: does institutional trading discipline empire building and earnings management?

Accounting Session 1: Earnings ManagementThe Conference program's website is located at http://areas.kenan-flagler.unc.edu/conferences/2013cfea/Pages/Final%20Schedule.aspxThis paper empirically identifies an important external corporate governance mechanism through which the institutional trading improves firm values and disciplines managers from conducting value-destroying activities. We propose a reward-punishment intensity (RPI) measure, and show that it is positively related to firm’s subsequent Tobin’s Q. Importantly, we find that firms with higher RPI exhibit less subsequent empire building and earnings management. Furthermore, we show that the exogenous liquidity shock of Decimalization augments the governance effect of institutional trading. We also find that the discipline effect is more pronounced for firms with moderate institutional ownership concentration, higher managers’ wealth-performance sensitivity, and higher trading liquidity, which further supports the governance role of the RPI. The results are robust to using a subsample containing firms with reduced institutional ownership and to using two instrumental variables.postprin

Cognitive Limitation and Investment Performance: Evidence from Limit Order Clustering

We hypothesize that cognitive limitation may be manifested in a disproportionately large volume of limit orders submitted at round-number prices if investors use these numbers as cognitive shortcuts. Using detailed limit order data in the Taiwan Futures Exchange, we find that investors with lower cognitive abilities, defined as higher limit order submission ratios at round numbers, suffer greater losses in their round-numbered and non-round-numbered limit orders, market orders, and round-trip trades. The positive correlation between cognitive ability and investment performance is monotonic and robust across futures and options markets. In addition, past trading experience helps to mitigate the cognitive limitation.postprin

EEG correlates of spatial orientation in the human retrosplenial complex

© 2015 Elsevier Inc. Studies on spatial navigation reliably demonstrate that the retrosplenial complex (RSC) plays a pivotal role for allocentric spatial information processing by transforming egocentric and allocentric spatial information into the respective other spatial reference frame (SRF). While more and more imaging studies investigate the role of the RSC in spatial tasks, high temporal resolution measures such as electroencephalography (EEG) are missing. To investigate the function of the RSC in spatial navigation with high temporal resolution we used EEG to analyze spectral perturbations during navigation based on allocentric and egocentric SRF. Participants performed a path integration task in a clearly structured virtual environment providing allothetic information. Continuous EEG recordings were decomposed by independent component analysis (ICA) with subsequent source reconstruction of independent time source series using equivalent dipole modeling. Time-frequency transformation was used to investigate reference frame-specific orientation processes during navigation as compared to a control condition with identical visual input but no orientation task. Our results demonstrate that navigation based on an egocentric reference frame recruited a network including the parietal, motor, and occipital cortices with dominant perturbations in the alpha band and theta modulation in frontal cortex. Allocentric navigation was accompanied by performance-related desynchronization of the 8-13. Hz frequency band and synchronization in the 12-14. Hz band in the RSC. The results support the claim that the retrosplenial complex is central to translating egocentric spatial information into allocentric reference frames. Modulations in different frequencies with different time courses in the RSC further provide first evidence of two distinct neural processes reflecting translation of spatial information based on distinct reference frames and the computation of heading changes