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

A client sells a stock that has fallen 30% below her purchase price only after it recovers to her original cost, even though better opportunities exist elsewhere. Which behavioural bias does this best illustrate?

This is the disposition effect, driven by loss aversion. The client refuses to realise a loss and waits to break even at her purchase price, ignoring better alternatives. The other options describe different biases about geography, recent events or stereotypes, which are not involved.

  1. ADisposition effect driven by loss aversionCorrect
  2. BHome bias
  3. CRecency bias
  4. DRepresentativeness bias

Explanation

The client holds a losing investment until she can break even, which is the disposition effect rooted in loss aversion and regret avoidance. Home bias concerns preference for domestic assets, and recency bias concerns overweighting recent events. Representativeness relies on stereotypes, not on a reference to cost.

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