Investor Sophistication and the Effect of Behavioral Biases in Structured Products Investment

Abstract

We examine the performance of behavioral biases among professional investors in the case of structured products investment. We outline several key features embedded in various structured products and associate each with specific behavioral bias identified in the literature of decision theory. We perform an experiment to test the possible impact of each behavioral bias on decisions pertaining to investments in structured products. Our findings reveal that, to varying degrees, the examined behavioral biases affect professional investors. As the experiment results show us that even professional investors are not really immune to behavioral biases, we try to figure out whether within this group of professional investors, there are certain personal characteristics which may influence the magnitude of the bias. Using logit, probit and linear probability models we show that the tested behavioral finance patterns are so deeply rooted in human behavior that they are difficult to overcome by any one of the personal characteristics we analyze. In demonstrating the impact of these behavioral biases on investors, our results can support the institution of specific regulation for structured products to improve investor protection. The proposed regulation should apply on both professional and nonprofessional investors.