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Is the disposition effect related to investors’ reliance on System 1 and System 2 processes or their strategy of emotion regulation?

Daniel W. Richards, Fenton-O'Creevy, Mark, Janette Rutterford and Devendra G. Kodwani

Journal of Economic Psychology, 2018, vol. 66, issue C, 79-92

Abstract: We report research on investor susceptibility to the disposition effect, a financial decision-making bias where investors have a greater propensity to realize gains than realize losses. Despite theoretical arguments for the influence of emotions, research on susceptibility to this bias, on real investors, has relied primarily on socio-demographic explanations. Some experimental research on student populations has considered emotions more directly, but has not addressed differences in individual susceptibility and has not examined genuinely consequential investor behaviour in real markets. Our research addresses this gap by predicting susceptibility to the disposition effect based on investors’ reliance on intuitive (emotion mediated) cognition (System 1), analytical cognition (System 2) and the strategies they use to regulate their emotions. Using investors’ trading records from a UK sample, we measure their susceptibility to the disposition effect and assess, through a questionnaire, their reliance on Systems 1 and 2 cognitive processes and use of two emotion regulation strategies. Investors with higher reliance on System 1 processes have greater disposition effect, but reliance on System 2 processes is not related to the disposition effect. Investor reliance on reappraisal (an emotion regulation strategy of changing a situation’s meaning to alter its emotional impact) reduces their disposition effect. However, the use of expressive suppression (a strategy that inhibits emotion expressive behaviour) does not show a statistically significant relationship with this bias. These results suggest that investors’ intuitive emotional reactions explain susceptibility to bias, and that effective strategies of regulating emotions enable this bias to be overcome.

Keywords: Disposition effect; Dual-process theory; Emotion regulation; Financial decision-making bias; Behavioral finance (search for similar items in EconPapers)
JEL-codes: D81 D1 G11 G2 (search for similar items in EconPapers)
Date: 2018
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