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D is for Disposition Effect

Tue, 17 Jun 2014 01:29:59 GMT

The Disposition Effect states that we're more likely to sell winners than losers but it also makes a more general statement. When things go well we tend to ascribe our success to our innate abilities - our disposition. When they go wrong we tend to blame external factors - our situation.  And the result is that we never learn very much. Example One of the most famous examples is Terrance Odean's research into internet investors, Are Investors Reluctant to Realize Their Losses? which delivered the quite unequivocable answer "yes": the disposition effect costs the average investor in Odean's study of internet brokerage accounts about 4.4% a year. Which is a lot of money added up over a career. Although that career might be quite short if you don't stem those losses. Causes The standard reason given for the effect is that we behave differently in the presence of a loss to that of a gain - it's an outcome of Prospect Theory, the foundational theory of behavioral...

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