Hidden Skewness: On the Difficulty of Multiplicative Compounding under Random Shocks

Arbeitspapier

Multiplicative growth processes that are subject to random shocks often have a skewed distribution of outcomes. In a number of incentivized laboratory experiments we show that a large majority of participants either strongly underestimate skewness or ignore it completely. Participants misperceive the outcome distribution’s spread to be far too narrow-band and they estimate the median to lie too close to the distribution’s center. The observed bias in expectations is irrespective to risk preferences and fairly robust to feedback. It is consistent with a behavioral model in which geometric growth is confused with linear growth. The misperception is a possible explanation of investors’ difficulties with real-world financial products like leveraged ETFs.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: CESifo Working Paper ; No. 4760

Classification and Topics

• Classification: Wirtschaft ; Design of Experiments: Laboratory, Individual ; Household Saving; Personal Finance
• Subject: behavioral economics ; irrational expectations ; binomial tree

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Ensthaler, Ludwig ; Nottmeyer, Olga ; Weizsäcker, Georg ; Zankiewicz, Christian
• Event: Veröffentlichung
• (who): Center for Economic Studies and ifo Institute (CESifo)
• (where): Munich
• (when): 2014

Further information

• Handle: http://hdl.handle.net/10419/96890
• Last update: 10.03.2025, 11:43 AM CET