Title: Does investment risk tolerance predict emotional and behavioural reactions to market turmoil?

Authors: James E. Corter

Addresses: Teachers College, Columbia University, Box 118, 525 W. 120th St., New York, NY 10027, USA

Abstract: To assess if risk attitudes play a role in individual investors' reactions to adverse events in financial markets, members of a university community (N = 102) were administered a risk tolerance instrument. Additional survey items asked about financial, emotional and behavioural effects of the market downturn that began in Fall 2008. Attitudes towards risk and towards uncertainty, and investor experience, were positively correlated with riskiness of the individuals' self-reported investment portfolio. Causal modelling confirmed that investment risk tolerance predicts actual risk in the investor's portfolio; which predicted losses in portfolio value during the recent market disruptions. Portfolio losses correlated with negative emotional reactions, which together with risk tolerance predicted self-reported changes in investment strategy. In sum, investors' emotional reactions to losses may be mitigated by higher levels of risk tolerance, yet higher levels of risk tolerance are associated with riskier portfolios, and thus to larger losses in a market downturn.

Keywords: behavioural finance; investment risks; risk tolerance; IRT; risk aversion; decision making; uncertainty; investment experience; market downturn; emotional reactions; emotion.

DOI: 10.1504/IJBAF.2011.045014

International Journal of Behavioural Accounting and Finance, 2011 Vol.2 No.3/4, pp.225 - 237

Published online: 20 Jan 2012 *

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