Do the diversification choices of individual investors influence stock returns?

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This paper shows that the diversification choices of individual investors influence stock returns. A zero-cost portfolio that takes a long (short) position in stocks with the least (most) diversified individual investor clientele generates an annual, risk-adjusted return of 5-9%. This spread reflects the combined effects of sentiment-induced mispricing, narrow risk framing, and asymmetric information, where the sentiment effect is the strongest. Furthermore, the influence on returns is stronger among smaller, low institutionally owned, and hard-to-arbitrage stocks. These results are robust to concerns about relatively short sample size, improper factor model specification, slow information diffusion, and high transactions costs.

Original languageEnglish (US)
Pages (from-to)362-390
Number of pages29
JournalJournal of Financial Markets
Issue number4
StatePublished - Nov 1 2007
Externally publishedYes



  • Arbitrage costs
  • Individual investors
  • Information asymmetry
  • Investor sentiment
  • Narrow risk framing
  • Under-diversification

ASJC Scopus subject areas

  • Finance
  • Economics and Econometrics

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