Behavioral Finance and Agent-Based Artificial Markets - RePub

228 Pages·2011·4.46 MB·English

MILAN LOVRIĆ
Behavioral Finance and
Agent-Based Artificial Markets
Behavioral Finance and Agent-Based
Artificial Markets

Behavioral Finance and Agent-Based
Artificial Markets
Behavioral Finance and gesimuleerde financi¨ele markten
THESIS
to obtain the degree of Doctor from the
Erasmus University Rotterdam
by command of the
rector magnificus
Prof.dr. H.G. Schmidt
and in accordance with the decision of the Doctorate Board.
The public defense shall be held on
Friday March 25, 2011 at 9:30 hours
by
Milan Lovric´
born in Zagreb, Croatia.
Doctoral Committee
Promoters: Prof.dr. J. Spronk
Prof.dr.ir. U. Kaymak
Other members: Prof.dr. M.J.C.M. Verbeek
Prof.dr. D.J.C. van Dijk
Prof.dr. S. Solomon
Erasmus Research Institute of Management - ERIM
Rotterdam School of Management (RSM)
Erasmus School of Economics (ESE)
Erasmus University Rotterdam
Internet: http://www.erim.eur.nl
ERIM Electronic Series Portal: http://hdl.handle.net/1765/1
ERIM PhD Series in Research in Management, 229
Reference number ERIM: EPS-2011-229-F&A
ISBN 978-90-5892-258-8
(cid:2)c 2011, Milan Lovri´c
Design: B&T Ontwerp en advies www.b-en-t.nl
Print: Haveka www.haveka.nl
All rights reserved. No part of this publication may be reproduced or transmitted in any
formorbyanymeanselectronicormechanical,includingphotocopying,recording,orbyany
informationstorageandretrievalsystem,withoutpermissioninwritingfromtheauthor.
To My Family
SIKS Dissertation Series No. 2011-14
The research reported in this thesis has been carried out in cooperation with SIKS,
the Dutch Research School for Information and Knowledge Systems.
Preface
This thesis presents the work performed during my PhD studies. It is a result of a very
exciting and stimulating period of my life that has surpassed my expectations in many
different ways and markedly influenced how I reflect on the world and myself. Any PhD
thesisismorethanjustacollectionofresearchpapers. Tomorepracticalstudentsitmight
seem as a little brick that contributes to the world’s temple of scientific knowledge. On
the other hand, to the more introspective ones it may seem as a mirror showing their
strengths and weaknesses as researchers. Finally, the poetic ones may even consider it an
ode totheeternalquestofthehumankindtotackletheunknownunknowns. Irrespectiveof
these personal attitudes, most of us would probably agree that a PhD thesis is above all a
testament totheteamwork,atextbookthatcondensestheeffortandsupportofamultitude
of people. Here I would like to extend my gratitude to everyone who has been part of my
PhD project in such a way.
Firstandforemost,Iwouldliketothankmypromoters,JaapSpronkandUzayKaymak,
for their guidance, focus, and patience throughout all these years. It has been a great
pleasureworkingwithJaap,whoisnotonlyapersonwithabroadinternationalexperience,
butalsoapersonwithagreatcharismaandaninspiringpersonality. Hisdeepunderstanding
and intuition in the field of finance has proven invaluable for this project. I would also like
to thank my second promoter, Uzay, who has been a great role model and has had a big
influence on the development of my research as well as teaching skills. I thank him for
always having his door open to me. Also, I admire his ability to find the most pragmatic
solutions to every challenge. I would also like to thank Jan van den Berg. While I have
not had a chance to work with him, he indeed has to be credited for having initiated my
PhD project. Thank you for believing in me and for giving me the opportunity to take
part in such an exciting research area. I feel especially honored to have an inner Doctoral
Committee composed of such distinguished researchers as Marno Verbeek, Dick van Dijk,
andSorinSolomon,andIappreciatetheirhonestfeedbackwhichresultedinmuchimproved
thesis.
ERIMPhDprogrammeisrenownforitsexcellentandextensivesupportthroughoutthe
whole PhD trajectory. I would like to express my appreciation to all the members of the
ERIMteamwho havesupportedme sincethe veryfirst day. Iwouldalso liketothankthe
staffoftheTinbergenInstitute, theDepartmentofBusinessEconomics, andespeciallythe
Econometrics Department who have graciously provided support during the last stage of
myproject. Manythanksgotoallofmystudentswhoseambitionandcuriosityhelpedme
toimprovenotonlyonmyteachingskillsbutalsohelpedtoguidemyresearch. Iwouldalso
liketothankWolfKetterandothermembersoftheLARGE.Thisresearchgrouphasbeena
greatenvironmentfordiscussingandpresentingagent-basedresearch,especiallybeforegoing
to conferences. Here, I would also like to acknowledge the generous financial support from
the Erasmus Trustfonds and the IEEE Computational Intelligence Society that helped me
attendsomeofthecriticalinternationalconferences. Theresearchreportedinthisthesishas
beencarriedoutincooperationwithSIKS,theDutchResearchSchoolforInformationand
Knowledge Systems, whose teaching programme on computational intelligence and agent
technology has been very valuable. Furthermore, I would like to thank my new colleagues
at Rotterdam School of Management for a warm welcome into the Department of Decision
and Information Sciences.
The ninth floor of the H-building (Erasmus School of Economics) has been my second
home for the longest part of my PhD study. I believe it was this mixture of PhD students
fromallovertheworldandfromvariousresearchfieldsthatcreatedsuchauniqueresearch
environment. I am grateful for having had the privilege to meet each and every one of
thesebrightyoungpeople,andIwishthemallthesuccessintheircareers,whetheritbein
academia or industry. I have to give special thanks to Merel and Rene for stimulating our
interactionsevenmorebyorganizingmanygezellige evenings. Myspecialappreciationgoes
as well to Diana and Nuno, with whom I shared the sunniest office on the floor for quite
some time. Thank you for your true kindness and support. I am also thankful to Nalan,
Rui, and Viorel for all our amusing and invigorating lunches.
This period of my life has proven to me that it is never too late to make new friends,
especiallythosewhoaredestinedtostaywithyouforever. IwouldliketothankAna,Igor,
andMatejaforbringingadashofhomeintoRotterdamaswellascreatingmanymemorable
experiences in different corners of the world. Many thanks to my former roommates Eva,
Kirsten, Bekim, and Yair for providing me with my very first Dutch home. Ana, Nikolina,
Mila, and Boˇzo, thank you for keeping me up to date with life in Zagreb and for always
being there for me.
Finally, I am indebted to my mother, brother, late father, and other family members
for their unconditional love and support. This little brick, mirror, ode and testament is
dedicated to you.
Milan Lovri´c
Rotterdam, February, 2011
Contents
1 Introduction 1
1.1 Motivation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
1.2 Research Objective and Research Questions . . . . . . . . . . . . . . . . . . . 3
1.3 Research Methodology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
1.4 Outline of the Thesis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
2 Behavioral Biases in Investor Decision Making 9
2.1 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
2.2 Behavioral Finance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
2.3 Dimensions of Investment Decisions . . . . . . . . . . . . . . . . . . . . . . . 13
2.3.1 Risk Attitude . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
2.3.2 Portfolio Allocation . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
2.3.3 Portfolio Management . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.3.4 Information Processing . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.3.5 Social Interaction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.3.6 Emotions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
2.3.7 Heuristics and Biases. . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
2.4 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
3 A Conceptual Model of Individual Investor 29
3.1 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
3.2 A Cognitive Model of the Investor . . . . . . . . . . . . . . . . . . . . . . . . 30
3.2.1 Dual-Process Systems . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
3.2.2 Risk Attitude . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
3.2.3 Time Preference . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
3.2.4 Strategies, Goals and Motivation . . . . . . . . . . . . . . . . . . . . . 34
3.2.5 Perception - Interaction - Action . . . . . . . . . . . . . . . . . . . . . 35
3.2.6 Personality . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
3.2.7 Demographics and Other Factors . . . . . . . . . . . . . . . . . . . . . 37
3.3 Investment Environment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
3.4 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40