title: Covariation neglect among novice investors.
abstract: In 4 experiments, undergraduates made hypothetical investment choices. In Experiment 1, participants paid more attention to the volatility of individual assets than to the volatility of aggregated portfolios. The results of Experiment 2 show that most participants diversified even when this increased risk because of covariation between the returns of individual assets. In Experiment 3, nearly half of those who seemingly attempted to minimize risk diversified even when this increased risk. These results indicate that novice investors neglect covariation when diversifying across investment alternatives. Experiment 4 established that naive diversification follows from motivation to minimize risk and showed that covariation neglect was not significantly reduced by informing participants about how covariation affects portfolio risk but was reduced by making participants systematically calculate aggregate returns for diversified portfolios. In order to counteract naive diversification, novice investors need to be better informed about the rationale underlying recommendations to diversify.
authors.affiliation: Department of Psychology, Göteborg University, Gothenburg, Sweden. hedesstrom@psy.gu.se
authors.forename: Ted Martin
authors.initials: TM
authors.lastname: Hedesström
authors.forename: Henrik
authors.initials: H
authors.lastname: Svedsäter
authors.forename: Tommy
authors.initials: T
authors.lastname: Gärling
mesh_terms: D000328:Adult; D002755:Choice Behavior; D005260:Female; D006801:Humans; D007449:Investments / Q000191:economics; D008297:Male; D011361:Professional Competence; D011584:Psychology / Q000706:statistics & numerical data