Get 20M+ Full-Text Papers For Less Than $1.50/day. Start a 14-Day Trial for You or Your Team.

Learn More →

Past performance is indicative of future beliefs

Past performance is indicative of future beliefs The performance of the average investor in an asset class lags the average performance of the asset class itself by an average of one percent per year over the past fifteen years, based on net investor mutual fund cash flows. We present a model in which a representative behavioral investor believes next year's returns will exactly match last year's returns and show that this leads to price adjustments on what would otherwise be random walk securities that effectively lower the future return of high performers and raise the future return of poor performers. The average predicted behavioral lag indeed matches the observed lag when asset returns are normally distributed with a mean and standard deviation equivalent to historical fifteen year averages of six percent and eighteen percent, respectively, and when the representative investor increases his allocation by 25% more than the return itself, a prediction for which we document empirical support. In other words, investors chase returns and in doing so create the conditions of their own demise. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Risk and Decision Analysis IOS Press

Past performance is indicative of future beliefs

Loading next page...
 
/lp/iospress/past-performance-is-indicative-of-future-beliefs-kBaGPwJVCd

References (10)

Publisher
IOS Press
Copyright
Copyright © 2011 by IOS Press, Inc
ISSN
1569-7371
eISSN
1875-9173
DOI
10.3233/RDA-2011-0038
Publisher site
See Article on Publisher Site

Abstract

The performance of the average investor in an asset class lags the average performance of the asset class itself by an average of one percent per year over the past fifteen years, based on net investor mutual fund cash flows. We present a model in which a representative behavioral investor believes next year's returns will exactly match last year's returns and show that this leads to price adjustments on what would otherwise be random walk securities that effectively lower the future return of high performers and raise the future return of poor performers. The average predicted behavioral lag indeed matches the observed lag when asset returns are normally distributed with a mean and standard deviation equivalent to historical fifteen year averages of six percent and eighteen percent, respectively, and when the representative investor increases his allocation by 25% more than the return itself, a prediction for which we document empirical support. In other words, investors chase returns and in doing so create the conditions of their own demise.

Journal

Risk and Decision AnalysisIOS Press

Published: Jan 1, 2011

There are no references for this article.