Impact of Personal Epistemology, Heuristics and Personal Attributes on Investment Decisions

Abstract

Investors who choose to invest or divest their funds abruptly contribute to the instability of the stock market. In such a volatile market when one investor chooses to invest in companies in spite of unstable prices, others decide not to invest. What individual indifference factors might predict opposing investment decisions such as these? Finance Literature proves that heuristics are significantly related to risky decision making and but there have been no studies to explore whether locus of control plays a role in behavioral finance. The present study has been undertaken to investigate whether locus of control predicts hot-come effect and its converse gambler's fallacy, when making personal investment decisions. The study has also analyzed investment experience as a possible determinant of hot-outcome or gambler's fallacy heuristics. The collective effect of an individual's locus of control and investment experience on investment decisions has been predicted using structural equation modeling. The present study has been done in the Kingdom of Saudi Arabia where 144 investors with prior investment experience and 124 new investors completed the Rotter's (1954) LOC and the adopted version of an Investment Survey Questionnaire. Results suggest that hot-outcome heuristic, trend length, trend valence and prior investment experience are factors that influence personal financial decision making. Results affirm that novice investors tend to utilize the hot-outcome heuristic regardless of the reference groups, while experienced investors from both reference groups apply gambler's fallacy heuristics to decide on investments.

The impact of heuristic and herding biases on portfolio construction and performance: the case of Greece

“…According to Loh and Warachka (2012), the post-earnings-announcement drift has a significant time-series component consistent with the gambler's fallacy. Furthermore, Kumaran (2013) investigated 144 investors with prior investment experience and 124 new investors. Results affirmed that experienced investors from both reference groups apply gambler's fallacy heuristics when deciding on investments.…”

“…According to Loh and Warachka (2012), the post-earnings-announcement drift has a significant time-series component consistent with the gambler's fallacy. Furthermore, Kumaran (2013) investigated 144 investors with prior investment experience and 124 new investors.…”

“…Along with the general factors affecting the investment decision, there are various behavioral biases (like heuristic and herding) influencing investment decision when structuring investment portfolios. Findings from research studies, experimental approaches as well as diagnostic assessments conducted in the field of behavioral finance, are conflicting with Kumaran (2013), Tekce et al (2016), Pikulina et al (2017) and Wei (2017), indicating that investor behavior positively influence investment decision. Others (Kengatharan and Kengatharan, 2014; Massa and Simonov, 2004; Nyamute, 2016 and Galaoritis et al , 2016a) find the influence to be negative, while recent papers (Robotis, 2018; Anderson et al , 2018) find no influence at all.…”