Lecture 9: Inefficient Markets: The Third Theme
De Bondt-Thaler winner-loser effect: investors who rely on representativeness heuristic become
overly pessimistic about past losers and overly optimistic about past winners causing price
Conservativism due to anchoring-and-adjustment: results in positive earnings surprises to be
followed by positive surprises and vice versa (post-earnings-announcement drift).
Frame dependence: loss aversion causes investors to shy away from stock resulting in relatively
high returns (mental accounting).
Myopic loss aversion: too short of evaluation horizons resulting in individual investors’
historical reluctance to hold stocks.
House-Money Effect: results in more risk taking after runups and vice versa.
Overconfidence: 1. Investors take bad bets b/c they fail to realize that they are at an
informational disadvantage; 2. investors trade more frequently than is prudent
Fear induces an investor to focus on events that are especially unfavorable; hope induces to focus
on events that are favorable.
Specific goals: aspire to purchase home, fund college, comfortable retirement
Fear transforms into regret.
Layered pyramid: bottom: securities to provide security (money market; CDs); securities for
specific goals (bonds); top are securities for appreciation (stock, real estate).
layers can be thought of as mental accounts
priorities are the mental account associated w/ bottom layer
Use mean-variance to determine portfolio; provide investor w/ probability of achieving