Model to Predict the Actual Annual Return of the Investor with the Investors’ Behavioral Biases as the Independent Variables

Abstract

The return earned by the investor in equity investments in the secondary equity market is influenced by the behavioral biases exhibited by the investors. With a sample of 436 secondary equity investors residing in Chennai, this article measured eight behavioral biases exhibited by investors and the actual return earned by investors. The biases measured include representativeness, overconfidence, anchoring, gambler’s fallacy, availability bias, loss aversion, regret aversion, mental accounting, and optimism bias. Regression analysis was done to develop a robust regression model that predicts the actual return earned from equity investments using behavioral biases as the predictors. Biases that have a positive influence on the return and those that have a negative influence on the return were identified by the model. The negative biases identified by the study can help financial advisors and wealth managers to guide their clients to earn good returns by avoiding the negative biases. Conscious efforts can also be made by investors to be cautious about the negative biases identified because these biases hamper the main goal of equity investments, which is good returns. TOPICS: Security analysis and valuation, emerging markets, statistical methods