Boys Will Be Boys - Gender, Overconfidence, and Common Stock Investment - Essay Example

Gervais and Odean (1998) suggest that overconfidence is a function of assessing self concerning the success and failure one has attained. It is a person’s habit to give more emphasis on his/her success than failure and therefore he/she becomes overconfident.

Barber and Odean (2001) present a belief that gender difference has a relationship with the overconfidence level in a particular field. They suggest that the men working in the finance domain outnumber the women working by far, which marks that men are more confident than women in this field. Also that the attribute of self-bias is seen more in men than women and therefore men are more likely to be overconfident.

To justify the claim of overconfidence, been seen more in men than women, they quote the data from various surveys between 1998 and 2000 taken on a total of approximately 15000 respondents in which men expected their portfolio to outperform the index by a greater margin than women.

Based on this theory of overconfidence, Barber and Odean (2001) made the following two hypotheses:-
1. Men usually trade more than women
2. By trading more, men hurt their performance more as compared to women

To test these hypotheses, they take the data on various households and calculate the return generated with the help of the following:-
1. Transaction Cost with the help of cost of Purchase and Cost of Sales
2. Total Turnover
3. Security Selection

With the help of the data then they conclude that women trade lesser than men.
Men trade approximately 45 percent more than the fairer sex, as per the data obtained from various brokerage firms. They also suggest that the average turnover rate for the common stocks for single men is sixty-seven percent more than for a single woman.

Moreover, Barber and Odean (2001) find out that women, at the end of the year, earn a return 0.143 percent lower than those earned by the portfolio at the beginning of the year whereas for men this number is 0.221 percent because of my churning activities seen in men than women. This justifies the fact that the stocks sold by both men and women outperform the ones they purchase. The stocks that men buy underperform those they sell by 20 basis points whereas the figure is 17 percent for women.

In the end, Barber and Odean (2008) find out that men on average earn a monthly gross and net return of 1.501 and 1.325 respectively whereas for women this is 1.482 and 1.361 respectively, and conclude that the assumptions are taken first that men trade more as compared to women and second that the men deplete the utility more due to excessive trading both holds good.

An analysis of the authors’ findings:-
There is a thin line of difference between confidence and overconfidence.
While the authors appropriately suggest and prove that the number of trades executed by men is higher as compared to women, this may be because of better risk-handling capacities in men than women. Authors aptly relate that trading is related to risk-facing capacity and is also related to the income earned by an individual which well may be the only case and the data derived by the authors for the model may be necessary but does not seem sufficient to justify that the higher trades are a result of overconfidence.

However, the report generated by the authors guides an investor in the following manner in his future decisions of executing any trade:-
1. Do proper research before churning your portfolio and do not perform for the sake of doing it.

2. Execute the trades keeping in mind the profit after deducting all the transaction costs from the selling price.

3. Do not think about performing a huge number of transactions and end up paying transaction costs higher than the generated profit.

4. Try to have long-term visibility for a company, in case you wish to invest.

Similar investment lessons could be learned from the biggest investor on the earth, Mr. Warren Buffet who invests in the company for at least as long as ten years. He suggests that do not give heed to the daily fluctuations in the market but look at the company in terms of buying its business rather than buying the stock (Hangstrom).

While there is a thin line difference between confidence and overconfidence, anybody could have considered Warren Buffet as an overconfident man when he decided to form a partnership firm for stock investment, taking the capital from seven members of the family and promising a return of at least as high as 6% on their paid capital. But true it is that the higher the risk higher the return. He finally emerged as a winner securing a sum of 25 million dollars in a few years. Therefore a belief that trading is a result of overconfidence that will see the investor’s wealth plummeting may not be true at all times. Read More