Do professional traders exhibit loss realisation aversion

By Peter R Locke, Steven C Mann
November 2000

Abstract / Introduction:

Recent evidence (e.g. Odean, 1998a) describes investor behavior that is at odds with traditional economic theory.  These alternative behaviors, such as those consistent with the disposition effect or overconfidence, form the basis for recent “behavioral” explanations for asset returns (e.g. Daniel, Hirshleifer and Subrahmanyam 1998a and 1998b, Odean 1998b, and Shumway, 1998).  Notably, the evidence of alternative investor behavior is based largely on retail customer accounts – those of amateur traders. 

In this paper we examine trades by populations of professional futures traders for evidence of activity best described by the “behavioral finance” literature.  The data provide support for the existence of a disposition effect (derived from the prospect theory of Kahneman and Tversky 1979) among professional traders.  We find that traders hold losing trades longer than winning trades and that average position sizes for losing trades are larger than for winners.  

Our evidence also indicates that relative aversion to loss realization is related to contemporaneous and future trader relative success.

 

Article_LockeP_DoTradersHaveLossAversion