Behavioral Finance Midterm 2B

Front 1

Existence of cash dividends could be explained best from the perspective of mental accounting in what way?

Back 1

if investors are loss-averse cash dividends allow investors ot feel positive even in the case of substantial stock price deprivation

Front 2

Existence of cash dividends could be explained best from the perspective of self-control in what way?

Back 2

many investors have problems controlling their temptation for immediate spending; cash dividends help investors to mitigate this problem by setting a simple rule which puts a cap on spending out of financial wealth

Front 3

Existence of cash dividends could be explained best from the perspective of regret avoidance in what way?

Back 3

if investors choose to finance part of their consumption out of financial wealth cash dividends help to minimize a feeling of regret should financial portfolio subsequently appreciate
-consuming out of capital gains involves active decision
-consuming out of dividends involves passive decision

Front 4

The effect of attention on stock picking by individual investors is best described by:

Back 4

1) which attention-grabbing stocks investors will buy will depend on their personal preferences
2) when there are many alternatives, options that attract attention are more likely to be considered, hence more likely to be chosen

Front 5

Individual investors on average underperform buy-and-hold portfolio. The reasons of their suboptimal performance are best described by:

Back 5

1) individual investors are overconfident about their abilities
2) the more overconfident the investor, the more he/she trades
3) they don't fully take into account transaction costs they pay when trading

Front 6

Disposition effect

Back 6

investors hold stocks which performed poorly recently for too long and sell stocks which performed well recently too early

Front 7

How do employees choose to allocate their portfolio in a defined pension plan? How could this be detrimental?

Back 7

1) 1/n rule
2) May not represent optimum mix

Front 8

What are the effects of framing?

Back 8

1) Categories with more options are chosen more
2) If the number of options in a category rises, investors rebalance to match
3) This happens with new and existing funds in the category

Front 9

Why does framing affect investors?

Back 9

Investors try to substitute their lack of knowledge by falling in representativeness bias: the bigger, the better

Front 10

3 Channels for permanent effect of attention

Back 10

1) Media coverage
2) Product market advertisement
3) Social Norms

Front 11

3 Economic mechanisms of why higher long-term attention would have a permanent effect on prices

Back 11

1) Better idiosyncratic risk sharing
2) More analyst coverage
3) More incentives to acquire and trade on private information which leads to more informative prices

Front 12

Excess volatility puzzle

Back 12

-stock markets are more volatile than Neoclassical models predict

Front 13

Equity premium puzzle

Back 13

premium for equity is higher than the CCAPM predicts for the amount of risk

Front 14

How does BF explain Excess volatility puzzle?

Back 14

-stock increases, investors less risk averse
-stock decreases, investors more risk averse
-part rational dividend growth, part change in risk aversion

Front 15

How does BF explain equity premium puzzle?

Back 15

Myopic loss aversion = loss aversion + short evaluation horizon
(one-year window would make investors indifferent)

Front 16

Why are the observed autocorrelations inconsistent with EMH?

Back 16

If EMH is true, there should be no return predictability
-In reality, ST positive autocorrelations (momentum effect)
-LT negative autocorrelations (return reversal effect)

Front 17

Stock return predictability based on 2 BF biases

Back 17

1) conservatism: mean-reversion, underreaction, positive ST
2) representativeness: trends, overreactions, negative LT

Front 18

Stock return predictability based on performance chasing

Back 18

-"smart money effect" = individuals seem to pick stocks that will outperform
-mutual funds size up positions ($.68/$1)