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A detailed investigation of the disposition effect and individual trading behavior: A panel survival approach

Research output: Contribution in Book/Report/Proceedings - With ISBN/ISSNChapter

Published
Publication date14/04/2016
Host publicationHigh Frequency Trading and Limit Order Book Dynamics
PublisherTaylor and Francis Inc.
Pages153-187
Number of pages35
ISBN (Electronic)9781317570769
ISBN (Print)9781138829381
<mark>Original language</mark>English

Abstract

This article uses a panel survival approach to analyze the trading behavior of foreign exchange traders. We concentrate on a detailed characterization of the shape of the disposition effect over the entire profit and loss regions. In doing so, we investigate the influence of a number of trading characteristics on the impact of the disposition effect. These trading characteristics include: special limit order strategies, trading success, size and the experience of our investors. Our main findings are that (i) the disposition effect has a nonlinear shape. For small profits and losses we find an inverted disposition effect, while for larger ones, the usual positive disposition effect emerges. (ii) The inverted disposition effect is driven to a great extend by patient and cautious investors closing their positions with special limit orders (take-profit and stoploss). The normal positive disposition effect is found to be intensified for impatient investors closing their positions actively with market orders. (iii) We show that unsuccessful investors reveal a stronger inverse disposition effect. (iv) Evidence that bigger investors are less prone to the disposition effect than smaller investors is also found.

Bibliographic note

Funding Information: This work has been supported in part by the European Community’s Human Potential Program under contract HPRN-CT-2002-00232, Microstructure of Financial Markets in Europe; and by the Fritz Thyssen Foundation through the project ‘Dealer-Behavior and Price-Dynamics on the Foreign Exchange Market’. I wish to thank Richard Olsen for helpful comments and for providing me with the data. The article benefited from several discussions with Günter Franke, Sandra Nolte, Mark Salmon and Winfried Pohlmeier. Previous versions of the article circulated under the title ‘Retail Investors’ Trading Behavior in the Foreign Exchange Market: A Panel Duration Approach’. The article has been presented at the 61st European Meeting of the Econometric Society, Vienna 2006, International Conference on High Frequency Finance, Konstanz 2006 and faculty seminars at the Universities of Tuebingen, Aarhus and Bruxells. Publisher Copyright: © 2015 Taylor & Francis. All rights reserved.