2. LITERATURE REVIEW
2.1 Disposition Effect
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立 政 治 大 學
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N a tio na
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2. LITERATURE REVIEW
2.1 Disposition Effect
The main purpose of this paper is to know whether investors exhibit the disposition effect in Taiwan futures markets. I refer the literatures about disposition effect.
Kahneman and Tversky (1979) propose the prospect theory to describe investor’s behaviors, but these behaviors violate the theoretical financial theories. They find an important result demonstrating that people’s attitudes toward risks concerning gains are different from their attitudes toward risks concerning losses. According to the results, they use a value function to illustrate this phenomenon. The function curve is concave for gains and convex for losses. It means that investors are risk-averse as they gain, while risk-seeking as they lose. Since the abnormal behaviors had been discovered, many researchers worked on further discussions.
Shefrin and Statman (1985) focus on prospect theory and do an extended research.
They propose the disposition effect which shows that people have a tendency to sell winners quickly and hold losers for a long time. They explain the disposition effect with prospect theory, mental accounting, seeking pride and avoiding regret and self-control.
Odean (1998) is the first paper to quantify the disposition effect by a methodology which includes two ratios: Proportion of Gains Realized (PGR) and Proportion of Losses Realized (PLR). This paper indicates that the disposition effect are not motivated by a desire to rebalance portfolios, or to prevent the higher trading costs from low priced stocks. Even nor is it justified by subsequent portfolio performance. This paper finds that the disposition effect really exists for entire year but not December because of tax-motivated selling behaviors.
Weber and Camerer (1998) conduct a questionnaire to calculate the disposition coefficient for the disposition effect. The experiment of the disposition effect involves
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立 政 治 大 學
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buying and selling six hypothetical stocks in the course of fourteen trading rounds. The results indicate that subjects are about fifty percent more likely to realize gains compared to losses.
Grinblatt and Keloharju (2001) use a regression model for assessing the disposition effect. This allows them to control for investor characteristics and market conditions.
Besides, they find that different types of investors are likely to react to past returns in different ways. The regression analysis indicates that the marginal effect of distance is less for firms that are more nationally known, for distances that exceed one hundred kilometers, and for investors with more diversified portfolios.
Shapira and Venezia (2001) use method of round trips duration to examine disposition effect. The results show that both professional and independent investors exhibit the disposition effect, but independent investors display more strongly. In addition, they compare trade frequency, volume and profitability between independent and professionally managed accounts. The results demonstrate that professionally managed accounts were more diversified and round trips were both less correlated with market and slightly more profitable than those of independent accounts.
Feng and Seasholes (2005) assume that initial portfolio diversification and number of trading right are sophistication proxies and obtain similar results. These authors further demonstrate that a combination of financial sophistication and trading experience can help investors to correct their behavioral mistakes. They propose that sophistication and trading experience eliminate the reluctance to realize losses and reduce the propensity to realize gains.
Dhar and Zhu (2006) analyze the disposition effect at individual level and contribute to the following consequences: First, trading frequency has negative relationship with the degree of the disposition effect. It means that the more experience, the less disposition effect exhibit. Second, wealthier and more professional investors display
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立 政 治 大 學
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N a tio na
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lower disposition effect.
Barber, Lee, Liu, and Odean (2007) analyze all trading activity on the Taiwan Stock Exchange. They find that in aggregate, investors are about twice likely to sell a stock if holding for a gain than a loss. Most of investors reflect the disposition effect. The authors also categorize investors into individuals, corporations, dealers, mutual funds and foreigners. Individuals, corporations, and dealers are reluctant to realize losses, while mutual funds and foreigners are not.
Jhang (2008) examined the Electronic Index futures and Financial Index Futures in Taiwan futures markets and linked the disposition effect and the profitability of individual trader. The results show that losers have more disposition effect. Instead, there is no disposition effect among winners. Besides, volume is the most dominant determinant of profitability. Trading volume is positively related to profits.
Unprofitable traders suffer more losses as they trade more suggests that traders need to know themselves well and be disciplined enough to quit when they are losing money.
Li, Lin, Cheng and Lai (2013) observe the different types of investors behave in Taiwan futures markets. The authors find that the disposition effect truly exists in the futures market. In addition, foreign institutional investors have less disposition effect than retail investors or proprietaries investors. Moreover, they also demonstrate that the lower disposition effect, the higher average returns.
Wang (2014) use Weber and Camerer (1998) method to estimate the disposition effect in Taiwan stock market during January 2007 to December 2010. The empirical results show that the disposition effect of individual investors during the financial crisis is less than other periods. Additionally, the financing investors’ disposition effect is larger than the short selling investors during financial crisis.