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Investment Decisions and Time Horizon: Risk Perception and Risk Behavior in Repeated Gambles

Author

Listed:
  • Alexander Klos

    (Lehrstuhl für Bankbetriebslehre, L 5,2, Universität Mannheim, 68131 Mannheim, Germany)

  • Elke U. Weber

    (Center for Decision Sciences and Graduate School of Business, Columbia University, 3022 Broadway, 716 Uris Hall, New York, New York 10027)

  • Martin Weber

    (Lehrstuhl für Bankbetriebslehre, L 5,2, Universität Mannheim, 68131 Mannheim, Germany, and CEPR, 90-98 Goswell Road, London EG1V 7RR, United Kingdom)

Abstract

To investigate the effect of time horizon on investment behavior, this paper reports the results of an experiment in which business graduate students provided certainty equivalents and judged various dimensions of the outcome distribution of simple gambles that were played either once or repeatedly for 5 or 50 times. Systematic mistakes in the ex-ante estimations of the distributions of outcomes after (independent) repeated plays were observed. Despite correctly realizing that outcome standard deviation increases with the number of plays, respondents showed evidence of Samuelson's (1963) fallacy of large numbers. Perceived risk judgments showed only low correlations with standard deviation estimates, but were instead related to the anticipated probability of a loss (which was overestimated), mean excess loss, and the coefficient of variation. Implications for future research and practical implications for financial advisors are discussed.

Suggested Citation

  • Alexander Klos & Elke U. Weber & Martin Weber, 2005. "Investment Decisions and Time Horizon: Risk Perception and Risk Behavior in Repeated Gambles," Management Science, INFORMS, vol. 51(12), pages 1777-1790, December.
    • Handle: RePEc:inm:ormnsc:v:51:y:2005:i:12:p:1777-1790
    DOI: 10.1287/mnsc.1050.0429
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    References listed on IDEAS

    as
    1. Alexander Klos & Martin Weber, 2006. "Portfolio Choice in the Presence of Non‐Tradable Income: An Experimental Analysis," German Economic Review, Verein für Socialpolitik, vol. 7(4), pages 427-448, November.
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    11. Klos, Alexander, 2004. "The Investment Horizon and Dynamic Asset Allocation - Some Experimental Evidence," Sonderforschungsbereich 504 Publications 04-09, Sonderforschungsbereich 504, Universität Mannheim;Sonderforschungsbereich 504, University of Mannheim.
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    13. Keller, L. Robin & Sarin, Rakesh K. & Weber, Martin, 1986. "Empirical investigation of some properties of the perceived riskiness of gambles," Organizational Behavior and Human Decision Processes, Elsevier, vol. 38(1), pages 114-130, August.
    14. Weber, Elke U. & Anderson, Carolyn J. & Birnbaum, Michael H., 1992. "A theory of perceived risk and attractiveness," Organizational Behavior and Human Decision Processes, Elsevier, vol. 52(3), pages 492-523, August.
    15. Michael Kilka & Martin Weber, 2001. "What Determines the Shape of the Probability Weighting Function Under Uncertainty?," Management Science, INFORMS, vol. 47(12), pages 1712-1726, December.
    16. Elke U. Weber & Christopher Hsee, 1998. "Cross-Cultural Differences in Risk Perception, but Cross-Cultural Similarities in Attitudes Towards Perceived Risk," Management Science, INFORMS, vol. 44(9), pages 1205-1217, September.
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