Academic journal article Journal of Business and Behavior Sciences

Executive Celebrity, Investment Heuristics and Trading Volume

Academic journal article Journal of Business and Behavior Sciences

Executive Celebrity, Investment Heuristics and Trading Volume

Article excerpt

(ProQuest: ... denotes formulae omitted.)

INTRODUCTION

The Wall Street Journal's published its inaugural list of "Best CFOs" on July 31, 2012. The prominence of the Wall Street Journal as the globally highest-circulation financial news publication provides a unique scenario to test the association between investor decision heuristics and shareholder liquidity within the context of executive celebrity. The research design controls for trading volume trends in each Best CFO company, its industrial-sector, and cross correlation associated with a common event date. Thirteen days prior to the WSJ public announcement of the CFO rankings, a significant increase in relative trading volume is observed for the Best CFO companies that is sustained through the announcement date and insignificant thereafter. The findings are consistent with the premise that at least some investors view the CFO ranking as a positive heuristic signal of the quality of the ranked company managements, and respond by increasing investment in the ranked stocks, thus stimulating trading volume.

LITERATURE REVIEW

Behavioral Biases: Behavior finance may be viewed as a process in which individuals use cognitive shortcuts in decision analysis (McGoun and Skubic, 2000), perhaps exchanging decision accuracy for reduced effort (Payne, 1993). Security analysis is a highly complex process, and decisionmakers are more prone to employ heuristics and other associative approaches in more complex decision scenarios (Epstein, 1994; Busemeyer, 1995; and Hammond, 1996). Also, if the investment decision is reversible, it may further enhance a more intuitive approach (Olsen (1998)). All of the securities in the study are actively traded, providing the ability to sell and reverse the investment decision, although not without the possibility of loss.

Alternatively, behavioral finance may more simply be defined as patterns in financial decision-making not explained by conventional financial theory. Unexplained areas of influence in decision-making may be driven by psychological factors, or by market imperfections that permit extended inaccurate valuations to occur (Schleifer and Summers, 1990; Barberis and Thaler, 2002). As an example, one source of evidence of a seemingly irrational decision process is the existence of merger waves (e.g., Auster and Sirower, 2002), even though such actions do not appear to benefit the shareholders of the acquiring firms (Roll, 1986).

Although several behavioral motivations may be offered as consistent with the observed increase in the trading volume of the CFOranked companies, perhaps base rate bias is the most viable. Base rate bias refers to the tendency of individuals to assess probabilities based on the extent to which one event accurately reflects other basic characteristics (Kahneman and Tversky, 1974). Less sophisticated investors may overestimate the importance of the CFO rankings and place too little weight on the company fundamentals evidenced by conventional financial analysis. That is, they may overly associate achievement of the CFO rankings with subsequent superior return performance of their shares. Although not measured in this study, another possibility within this context is a cascading effect with initial increases in trading volume attracting additional investors, a mimicking pattern observed in other studies outside the financial arena (Abrahamson, 1991; and Mezias and Lant, 1994).

In addition, the increase in trading volume of the CFO-ranked companies may be partially driven by ambiguity aversion bias, which is the preference by individuals for decision options in which the probability distribution for success is known over decision options involving unknown probabilities for success (Heath and Tversky, 1991). Investors know that the CFO-ranked companies are perceived by the Wall Street Journal analysis staff as being among the best twenty-five CFOs in industry, while the potential rankings of the quality of CFOs of other companies is not revealed in the Best CFO announcement. …

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