Investment Patterns Among the Sexes

Investment Patterns Among the Sexes "There's been a lot of academic research suggesting that men think they know what they're doing, even when they really don't know what they're doing." -- John Ameriks Studies have shown human beings to make non-rational financial decisions, and that these decisions are based on a combination of overconfidence and misguided faith in largely irrelevant pieces of information.

In a New York Times article on the subject, reporter Jeff Sommer discusses recent data demonstrating that men were more likely to make poor investment decisions during the economic downturn of 2008-09, and investigates possible reasons behind this increased likelihood. He concludes that it is largely the result of an overconfidence that is seen less often in women, and may stem from a combination of evolutionary biology and psychology.

In the New York Times article "How men's overconfidence hurts them as investors," reporter Jeff Sommer covers a variety of scientific research looking into how sex and gender affect financial decisions, focusing on research that shows men being more confident in their ability to "make sense" of small-scale market fluctuations than women, leading men to make trades which ultimately result in a loss.

The article proposes a number of different possible reasons for the discrepancy, and although it does not claim to have a definitive explanation for men's overconfidence when it comes to investing, it does offer some insight into the differing investment patterns between sexes and the underlying biological and psychological reasons for them.

Sommer finds that men's overconfidence can likely be seen as the result of evolutionary pressures coupled with historical gender bias constructions, and the increased frequency in trading exhibited by men is a result of differences in how certain portions of men and women's brain are activated in response to certain stimuli. The main focus of the article is data released by Vanguard, a mutual fund company.

The data showed that "during the financial crisis of 2008 and 2009, men were much more likely than women to sell their shares at stock market lows. Those sales presumably meant big losses -- and missing the start of the market rally that began a year ago" (Sommer, 2010). This does not apply to every man or woman, but rather, as a group, men were more likely to trade their shares of stock, and the article notes that this "fits the patterns found in path-breaking research by Brad M.

Barber of the University of California, Davis, and Terrance Odean, now at the University of California, Berkeley." The Berkeley study, "Boys Will Be Boys: Gender, Overconfidence and Common Stock Investment," looked at "the investing behavior of more than 35,000 households from a large discount brokerage firm." The analysis found that "all else being equal, men traded stocks nearly 50% more often than women" (Sommer 2010).

This tendency to trade more frequently automatically increases the risk of a loss, because "staying the course and minimizing costs -- selling high and buying low, if you trade at all -- are the classic characteristics of good long-term, buy-and-hold investors." Coupled with the severe downturn of 2008 and 2009, men's tendency to trade more frequently found them selling shares at the wrong times, thus increasing their losses beyond those caused by the overall declines in the stock market.

While the tendency to trade more frequently is the cause of men's overall investment losses, the reasons for that desire to trade frequently are more obscure. As the title of the article suggests, Sommer argues that men's overconfidence is the reason for their more-frequent trading, and thus their greater losses during the most recent economic downturn.

Sommer provides quotes from both an executive at Vanguard and Brad Barber, one of the authors of the "Boys Will Be Boys Study." According to John Ameriks, head of Vanguard Investment Counseling and Research, "there's been a lot of academic research suggesting that men think they know what they're doing, even when they really don't know what they're doing." Professor Barber supports this view, proposing that "in general, overconfident investors are going to be interpreting what's going on around them and feeling they are able make decisions that they're really not equipped to make." Sommer then proposes three possible reasons why this overconfidence might present itself in men, or at least why men might be more susceptible to it.

Firstly, Sommer notes that "researchers have found that activating the nucleus accumbens -- a brain region that is stimulated when you eat delicious food or look at an attractive person -- can affect financial risk-taking." However, the results of this research bear some examination, because they do not necessarily show a conclusive difference in brain functioning between men and women. "When young Stanford men were shown pictures of partially clothed men and women kissing, he said, that region of their brains was activated.

And when they were then given financial tests, the men became more likely to "make high-risk gambles" (Sommer, 2010). Women did not respond similarly to the images, and their performance in subsequent financial tests was not affected the same as the men. The researchers proposed that "it's possible [they] didn't test enough women or that they haven't found the right stimuli," suggesting that if women's nucleus accumbens could be activated by alternate means, then they might exhibit the same increase in "high-risk gambles" seen in the men's results.

Thus, while this portion of the brain seems to influence financial decisions, one cannot say with certainty that it only affects men; rather, it seems more likely that men and women differ in how this portion of the brain is activated, but once activated, it affects the financial decisions of both sexes equally. However, it may be true that men's nucleus accumbens are activated more easily than women, thus creating an asymmetry in practice.

Secondly, research has shown a correlation between testosterone and risk-taking, which suggests that perhaps men's overconfidence is a result of an evolutionary holdover; increased testosterone may have given men a proper amount of confidence when the majority of risks were related to physical activity, but when the risks are largely abstract, mental calculations, that extra confidence does not bring an accompanying increase in predictive ability.

In fact, that overconfidence likely causes men to ignore or otherwise intentionally refute certain information that may disagree with their desired conception of the market, further exacerbating a decision-making process already based on spurious information. The last possible reason Sommer suggests for men's overconfidence in investing is also a result of human evolution, albeit related to psychology, rather than biology.

According to an economics professor at Colorado State University, "before the dawn of history, aggressive risk-taking might have given men an advantage in finding mates […] while women might have become more risk-averse to protect their offspring" (Sommer, 2010).

The professor, Alexandra Bernasek, also suggests that this behavioral difference was likely affected by gender relations throughout history, so that "enormous gender disparities in earnings, wealth, power and social status" may have encouraged contemporary men to assume themselves automatically correct simply by the position they find themselves in as a result of historical gender bias.

In addition, although neither the article nor Bernasek propose the idea, it is reasonable to presume that centuries of repression has encouraged women to avoid risky behavior, as they would more likely receive disproportionate punishment or admonishment compared to men should that risk turn into calamity. In effect, men may be more inclined towards risk-taking because they have stacked the deck in their favor, so they are least likely to feel the negative effects of that risk.

(This is essentially the mentality which brought about the most recent economic disaster, and in fact, a majority of the banks and financial institutions directly responsible for taking the risks which caused the economic collapse have not had to face many of the negative effects of their risk-taking.) Although the claims about men in the article alone are not completely convincing, if only because of Sommer's somewhat milquetoast conclusion that "science may eventually provide some answers," additional research regarding investment habits and motivations has shown that a number of non-rational factors affect investment choice, and by examining these factors, one is able to see that in general, his presumptions regarding men and women's trading habits are supported by larger trends.

Only relatively recently have individual characteristics and traits of investors been studied in any detail. In the 1974 essay "The Individual Investor: Attributes and Attitudes," the authors note "we should expect to be confronted with a rich body of evidence about the characteristics, attitudes, portfolio selection rules, and realized investment returns of the small investor. As it happens, however, we appear to know surprisingly little about him" (Lease, Lewellen, & Schlarbaum, 1974, p.414).

(the authors' use of the male pronoun here even implicitly demonstrates how little consideration has been paid to investment differences based on sex.) Even as recently as 1990, the essay "Using Demographic and Lifestyle Analysis to Segment Individual Investors" notes that "while a great deal of research has been devoted to consumer expenditures, little empirical research exists concerning individual investment behavior" (Warren, Stevens & McConkey, 1990, p.74).

This dearth of information was likely caused by a reluctance to examine investment decisions on the part of investors themselves; nobody likes finding out that their "thought-out" considerations are not any more accurate than gut choices, and in fact, those gut choices likely had more influence than all of their mental work. In the last decade, however, strides have been made in the study and analysis of investment behavior, revealing surprising details about what goes in to making stock trades.

The first important work in the study of individual investment behavior was the realization that human beings do not always act rationally in regards to financial decisions, because according to the previously quoted Brad Barber and his co-author Terrance Odean, "the field of modern financial economics assumes that people behave with extreme rationality, but they do not" (Barber & Odean, 1999, p.41).

Although "differences in investor literacy about financial markets" are responsible for some of these irrational decisions, there is ample evidence to suggest that psychology and personality are as important as financial literacy or education (Dhar & Zhu, 2006, p.726). In a 2001 essay titled "What Makes Investors Trade?" Mark Grinblatt and Matti Keloharju examine some of the factors that influence investor's decisions to make certain trades.

They argue that "the extraordinary degree of trading activity in financial markets represents one of the great challenges to the field of finance," because "many theoretical models in finance […] argue that there should be no trade at all," and furthermore, "empirical research […] also shows that the trades of many investors not only fail to cover transaction costs, but tend to lose money before transaction costs" (Grinblatt & Keloharju, 2001, p.589).

This latter scenario is precisely what happened when men sold their stock at all-time lows during the recent economic crisis, and Grinblatt and Keloharju revisited the topic in their 2009 essay "Sensation Seeking, Overconfidence, and Trading Activity." They found that after accounting "for a host of variables, including wealth, income, age, number of stocks owned, marital status, and occupation, […] overconfident investors and those investors most prone to sensation seeking trade more frequently" (Grinblatt & Keloharju, 2001, p.459).

Although sex was not one of the variables considered in Grinblatt and Keloharju's analysis, those traits which contribute to more frequent trading are precisely those identified in men in both Sommer's overall article and the research conducted regarding the nucleus accumbens and the effect of certain images on financial risk-taking. An additional study from 2009, "Who.