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NISM Certifications · NISM-Series-X-B: Investment Adviser (Level 2) · Basics of Behavioural Finance

A client refuses to sell a mutual fund unit that has fallen 20% below her purchase price, saying she will sell only when it returns to her cost. Which behavioural bias does this best illustrate?

This is the disposition effect: the investor holds on to a losing investment waiting to break even, avoiding the pain of realising a loss, instead of judging the unit on its future prospects.

  1. ADisposition effectCorrect
  2. BRecency bias
  3. CHome bias
  4. DRepresentativeness bias

Explanation

The disposition effect is the tendency to hold losing investments too long and sell winners too early, to avoid realising a loss. Anchoring to the purchase price drives the refusal here. Recency bias concerns over-weighting recent events, and home bias concerns preference for domestic or familiar assets.

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