DP15012 The Portfolio Composition Effect

Author(s): Jan Mueller-Dethard, Martin Weber
Publication Date: July 2020
Date Revised: July 2021
Keyword(s): investment behavior, Mental accounting, Portfolio composition, risk preferences
JEL(s): D84, G11, G12, G40
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=15012

This study asks whether a simple, counting-based measure of performance, which is the fraction of winner stocks in a portfolio, affects people's willingness to invest in the portfolio. We find experimental evidence that indicates that individuals allocate larger investments to portfolios with larger fractions of winner stocks, albeit alternative portfolios have realized identical overall portfolio returns and show identical expected risk-return characteristics. Building on our experimental findings, we show empirically that the proposed composition measure also matters for the demand of leading equity market index funds. A framework which combines category-based thinking and mental accounting can explain the effect.