How Emotions Undermine Your Investing Decisions
Brad Barber is a professor of finance at the U.C. Davis Graduate School of Management, where he also directs the school’s Center for Investor Welfare and Corporate Responsibility. His research, which focuses on analyst recommendations and investor psychology, has been covered extensively in the financial press, including Business Week, Time, the Wall Street Journal, ABC News, NBC Nightly News, CNN, CNNfn, and CNBC.
Dan Richards interviews Barber at the American Economic Association conference in early January.
A video of this interview is available here.
You co-authored a paper, with your colleague Terrance Odean, All That Glitters: The Effect of Attention in News on the Buying Behavior of Individual and Institutional Investors, that was awarded the Best Conference Paper by the European Finance Association in 2005. Where did the idea for this research come from?
We have been doing a lot of work on the psychology of individual investors. One of the things that seemed to be important to us was the way media portrays different stocks or different companies. The idea was that when the media covers a particular company it focuses investors’ attention on the stock. The observation that we made was that this really is about buying behavior, because many individual investors only hold a few stocks.
When individuals buy a stock, they have many thousands to choose from, but when they sell a stock they only have a handful of stocks that they own in their portfolio. Our hypothesis was that investors are going to be net buyers of stocks that get into the news.
One of the novel things is that the prediction really applies to both good and bad news, because even when you get bad news, an investor can spin a contrarian story: “Now is a time to buy XYZ company, even though it has been beaten down.”
So your thesis was that individual investors are influenced by news. How about institutional investors?
We felt institutions would be less so, because they have systems in place. They have resources available to them that would allow them to, first of all, better filter or process this news. But they also have bigger portfolios, so if there is an attention effect going on it is likely to be much more symmetric with respect to buying and selling behavior for institutions. With individuals’ small portfolios, the attention effect is not going to be as pronounced among the stocks they sell.