Expectations Investing: Reading Stock Prices for Better Returns by Alfred Rappaport & Michael J Mauboussin & Peter L. Bernstein

Author:Alfred Rappaport & Michael J Mauboussin & Peter L. Bernstein [Rappaport, Alfred]
Language: eng
Format: epub
ISBN: 9781633691520
Publisher: Harvard Business Review Press
Published: 2003-02-17T22:00:00+00:00

Assumes a 10 percent cost of equity capital.

Investors manifest this behavior when they escalate their commitment to a stock by buying even more of it after it has declined. Not only are investors slow to take losses, but they often buy more of a stock just because they bought it in the past. Of course, prior investment decisions are history, and decisions today need to be based on today’s expectations, not yesterday’s. As Warren Buffett says, “The most important thing to do when you find yourself in a hole is to stop digging.” Investors who stick to the recommendation of buying stocks only when they trade at a sufficient discount to their expected value will avoid the irrational escalation trap.

How a problem or set of circumstances is presented can also affect people’s decisions. Even the same problem framed in different—and objectively equal—ways can cause people to make different choices. One example is what Richard Thaler calls mental accounting.4 Say that an investor buys a stock at $50 per share and it surges to $100. Many investors divide the value of the stock into two distinct parts: the initial investment and the profit. And many treat each part differently—the original investment with caution and the profit portion with considerably less discipline.

This “house-money effect” is not limited to individuals. Hersh Shefrin documents how the committee in charge of Santa Clara University’s endowment portfolio succumbed to this effect. Because of strong market performance, the endowment crossed a preordained absolute level ahead of the time line that the university president set. The result? The university took some of the “house money” and added riskier investment classes to its portfolio, including venture capital, hedge funds, and private placements.5

Download

Copyright Disclaimer:
This site does not store any files on its server. We only index and link to content provided by other sites. Please contact the content providers to delete copyright contents if any and email us, we'll remove relevant links or contents immediately.