The Relationship of Behavioral Factors with Investment Performance of Individual Investors in the Nepali Stock Market

Kripa Kunwar

doi:10.3126/paj.v4i0.37016

Abstract

In recent years, the market anomalies and irrational behavior of investors have influenced the stock market worldwide. The impact of investor behavior on the stock market is more prominent in small and less efficient capital markets. The study is based on the questionnaire survey of 203 investors from Kathmandu and Pokhara. The study uses Exploratory Factor Analysis (EFA) to explore the underlying dimensions of investor behavior employing Principal Component Analysis and Varimax rotation. The suitability of the data for the factor analysis has been examined using KMO and Barlett’s Test of Sphericity. The EFA extracted four factors of investor behavioral dimensions categorized as: heuristics, prospects, market factors and herding effect. The factor scores obtained from the EFA was used to examine the correlation of these behavioral factors with investment performance. The results reveal that behavioral biases like heuristics, prospects, market factor and herding effect are present among individual investors in Nepal. Among the factors, the investment performance of investors is found to be influenced by heuristics and market factors. The heuristic behaviors are found to have the highest and positive influence on the investment performance. Finally, the results depict that following the herd behavior in the market and prospects does not result in the improved investor performance. The findings are helpful to understand the role of investor behavior in the stock market and formulation of appropriate policies that limit the possibility of behavioral biases affecting the stock market adversely.

Highlights

The stock market is a backbone of the country’s economy
Consistent with the findings from the similar stock markets, behavioral biases like heuristics, prospects, market factor and herding effect are present among the individual investors in Nepal
Biases related to prospects and market factors like loss and regret aversion behavior, following market trend, and reacting to price changes have a moderate influence on the investor performance

Summary

Introduction

The stock market is a backbone of the country’s economy. Changes in the stock market has a great influence in the financial system and economy of the country. The essences of traditional finance theories have four foundation blocks. These are: investors are rational, markets are efficient, investors should design their portfolio according to the rules of mean variance portfolio, and expected returns are a function of risk and risk alone (Statman, 2008). The Efficient Market Hypothesis (EMH) explains that investors behave rationally in the financial market after processing all the available information to estimate the price of financial assets and maximize expected utility accurately. The Expected Utility Theory (EUT) states that investors are rational and their decision is based on the balance between utility and risk after judging the available alternative

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