Abstract
Loss aversion bias, the disposition effect and representativeness bias have implications for trading decisions, financial planning and working capital management. We provide a discussion of the regret associated with losses and then illustrate the relevance of this bias to the equity premium puzzle, optimal portfolio choice and other issues. We also explain how prospect theory is linked to the disposition effect. We discuss momentum and contrarian trading behaviour as it is a major focus for academics and practitioners and explore the implications of the disposition effect for various areas of finance. As far as representativeness is concerned, we examine its implications for investors’ sentiment, using the evidence provided by the overreaction and under-reaction literature.
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