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Investor behavior under the law of small numbers

Peng, Cheng (2017) Investor behavior under the law of small numbers. . SSRN.

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Identification Number: 10.2139/ssrn.3066369

Abstract

I study how investors trade under the law of small numbers, the belief that even a small sample represents the characteristics of the underlying population. These investors expect short-term trends to reverse but long-term trends to continue. Using a simple model, I show that the law of small numbers can explain several well-documented trading phenomena: chasing long-term trends, bucking short-term trends, the disposition effect, and the V-shaped selling propensity. Moreover, I derive and successfully test the model's new predictions, and in doing so, I (1) provide evidence for heterogeneous horizons, (2) highlight how investors' extrapolation horizon and holding period can explain variation in their disposition effect, and (3) show that the V-shaped selling propensity is an aggregate phenomenon driven by separate groups of investors.

Item Type: Monograph (Working Paper)
Additional Information: © 2017 The Author
Divisions: Finance
Subjects: H Social Sciences > HG Finance
JEL classification: G - Financial Economics > G1 - General Financial Markets > G11 - Portfolio Choice; Investment Decisions
Date Deposited: 11 Oct 2019 11:45
Last Modified: 09 Jun 2020 23:10
URI: http://eprints.lse.ac.uk/id/eprint/102058

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