Positivist vs. Realist Research Approaches in Finance

Introduction: Philosophical Foundations of Research

Researchers exposed to multiple theories of action and theories of knowledge appreciate the limiting effect of permitting a single approach to inquiry to dominate a research endeavor. In the manner of researchers who exercise linguistic and epistemic objectivity, it is evident that a research frame can lead to a search for "truth" without insistence on an exclusive or distinctive philosophical grounding. The key point of departure for inquiry from its philosophical origins lies in what Juma'h (2006, p. 106) refers to as the research question: "What does 'p' mean?" — rather than the epistemological question, "How do we know 'p'?"

By extension, a positivist inquiry is intentional about determining whether, according to the prevailing theory, the research findings about 'p' are true. A realistic inquiry, by contrast, emphasizes research findings that illustrate how 'p' may be applied.

Positivist research approach. The positivist approach to research imposes a structure for conducting research and a frame for thinking, both of which contribute to a particular form of theory. The theory of knowledge that undergirds positivism permits contributions to the literature that are empirical in nature, having been gathered through actual experience. To this structure, logical positivism adds analysis and mathematical techniques, such as those used for model building. The aim of positivism is to contribute to a theory of meaning — a corpus of literature that supports the "truthfulness" of a theoretical foundation. The platform of logical positivism is that a proposition must be verified through an established empirical, evidence-based method that permits a determination of the truthfulness or falsity of the proposition or phenomenon.

Positivist and Realist Research Approaches

Realistic research approach. A realistic approach to understanding the world emphasizes knowledge about the mechanisms of naturally occurring phenomena, the interaction and combination of which contribute to continual change. Realists consider the construction of knowledge to be a social activity that is inextricably related to the context in which phenomena occur. In other words, to the realist, knowledge is not a product or outcome that can be known simply through observation without also considering its application in social science.

According to Gippel (2012), the last four decades of mainstream financial research have been grounded in "the neoclassical rational expectations paradigm" (p. 143). However, in his 1953 essay The Methodology of Positive Economics, Milton Friedman argued for the field to move past a desire for descriptive realism and instead utilize theory for "organized reasoning and analysis" rather than seek "concrete truth" (Hammes, 2011, p. 402).

The Research Approach Debate in Finance

Gippel examines several emerging sub-disciplines of finance that represent departures from the neoclassical rational expectations paradigm. Gippel (2012) describes behavioral finance as the most well-established challenge to the old paradigm, noting that evidence supporting behavioral finance has come primarily from experimental methods that depart from the traditional mathematical modeling of rational expectations. Birou et al. (2011) provide an example of realist research grounded in epistemology and organizational research for the purpose of managing tacit or applied knowledge.

Investors' perceptions of financial derivatives. Using empirical methods and inductive reasoning, Koonce et al. (2007) studied the perceptions of investors regarding their money managers' use of derivatives. They found that investors overall tend to reward asset management firms that use derivatives, regarding these managers as taking a higher level of care than those who do not. It is important to note that Koonce et al. (2007) conducted their research prior to the financial crisis — an event that could substantially alter the findings of a replication study. This point underscores the substantive contribution of context to theory-building, a perspective endorsed by the realism approach. Indeed, Koonce et al. (2007) found that "how investors think about derivatives in hindsight is different from how they judge them in foresight" (p. 595).