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Investment Strategy and Selection Bias: An Equilibrium Perspective on Overoptimism

Jehiel, P; (2018) Investment Strategy and Selection Bias: An Equilibrium Perspective on Overoptimism. American Economic Review , 108 (6) pp. 1582-1597. 10.1257/aer.20161696. Green open access

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Abstract

Investors implement projects based on idiosyncratic signal observations, without knowing how signals and returns are jointly distributed. The following heuristic is studied: investors collect information on previously implemented projects with the same signal realization and invest if the associated mean return exceeds the cost. The corresponding steady states result in suboptimal investments, due to selection bias and the heterogeneity of signals across investors. When higher signals are associated with higher returns, investors are overoptimistic, resulting in overinvestment. Rational investors increase the overoptimism of sampling investors, thereby illustrating a negative externality imposed by rational investors.

Type: Article
Title: Investment Strategy and Selection Bias: An Equilibrium Perspective on Overoptimism
Open access status: An open access version is available from UCL Discovery
DOI: 10.1257/aer.20161696
Publisher version: http://dx.doi.org/10.1257/aer.20161696
Language: English
Additional information: This is the published version of record. For information on re-use, please refer to the publisher’s terms and conditions.
Keywords: Social Sciences, Economics, Business & Economics, Overconfidence, Failure, Success
UCL classification: UCL > Provost and Vice Provost Offices
UCL > Provost and Vice Provost Offices > UCL SLASH
UCL > Provost and Vice Provost Offices > UCL SLASH > Faculty of SandHS > Dept of Economics
URI: http://discovery.ucl.ac.uk/id/eprint/10052506
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