1. An Experimental Approach ESA World Meeting 2007, Rome Marta Maras Universitat Pompeu Fabra The Disposition Effect in the Venture Capital Decision-Making Process

2. ESA World Meeting 2007, RomeJune 29, 2007 MOTIVATION  DISPOSITION EFFECT (Shefrin&Statman, 1985)  Tendency of investors to retain losing investments in their portfolios longer relative to their winning investments  Extension of prospect theory (Kahneman&Tversky, 1979) to investments  MY CONTRIBUTION  Context of venture capital market (entry and exit investment situations)  Learning prior to decision making in experiments  controlled expertise  Competitive environment (venture selection)  Assessing costs and benefits of competition

3. ESA World Meeting 2007, Rome June 29, 2007 LITERATURE REVIEW  DISPOSITION EFFECT (Shefrin&Statman, 1985)  MARKETS  Stocks (Odean, 1998; Ranguelova, 2001), Stock options (Heath et al., 1999),  Real-estate market (Genesove&Mayer, 2001), Futures (Heisler, 1994; Locke&Mann, 1999)  INVESTOR BEHAVIOUR  Above-average risks after losses (Coval&Shumway, 2005)  Profitability of momentum trading strategy (Grinblatt&Han, 2001)  Post-earnings announcement drift (Frazzini, 2006)  INVESTOR TYPE  Individual vs. professional (Shapira&Venezia, 1998)  Wealth, experience, trading frequency (Dhar&Zhu, 2005; Chen et al., 2004)  EXPERIMENTS  Share positions automatically closed (Weber&Camerer, 1998); Locus of control (Chui, 2001)  Markets with different trading mechanisms (Oehler et al.,2002)  Sunk costs&emotional commitment (Summers&Duxbury, 2005)  Stability across tasks and time (Weber&Welfens, 2006)

4. ESA World Meeting 2007, Rome June 29, 2007 EXPERIMENTAL DESIGN  DIAGRAM OF EXPERIMENTAL DESIGN PROCEDURE NO COMPETITION TREATMENT LEARNING STAGE * MCPL TASK CUE IMPORTANCE RANKING INVESTMENT STAGE *3 ROUNDS COMPETITION TREATMENT ASSIGNMENT TREATMENT VENTURE MANAGEMENT VENTURE ASSIGNMENT VENTURE SELECTION VENTURE SELECTION VENTURE MANAGEMENT VENTURE MANAGEMENT

5. ESA World Meeting 2007, Rome June 29, 2007 EXPERIMENTAL DESIGN  OPTIMAL INVESTMENT STRATEGY  INVESTMENT STAGE – INVESTMENT PROCESS  Invest full amount provided in t=0 (no cash) in 2 ventures with best attribute values according to the cue model (due to upper bound on individual venture investment)  Keep both in portfolio until t=5 by investing maximally in the more profitable venture

6. ESA World Meeting 2007, Rome June 29, 2007 EXPERIMENTAL DESIGN  DISPOSITION EFFECT (Shefrin&Statman, 1985)  Loss aversion is reflected in the significant difference between proportion of gains realised (PGR) and proportion of losses realised (PLR) PROPORTION OF GAINS REALISED = PROPORTION OF LOSSES REALISED = Disposition Effect: PGR > PLR

7. ESA World Meeting 2007, Rome June 29, 2007 RESULTS (1)  Relevance of prior learning and competitive environment on the selling behaviour of individuals that were previously not included in the experimental studies of the disposition effect  No clear evidence of Disposition Effect – behavioural pattern in accordance with standard economic theory  General consistency in realising losses and apparent heterogeneity regarding realisation of gains  Lack of understanding of the experimental setting as a possible reason for disposition effect emergence?  Conflicting evidence in empirical studies (Feng and Seasholes (2005), Dhar and Zhu (2005) & Genesove and Mayer (2001) vs. Chen et al. (2004))  Expertise Effect – Participants with higher levels of learning (reflected in judgement achievement components (r a, G and R s ) ) had higher earnings in the experiment (investment stage)

8. ESA World Meeting 2007, Rome June 29, 2007 RESULTS (2)  Participants held a more diversified portfolio and traded more often than optimal worsening their earnings  Treatment importance in selling behaviour influenced by the underlying return trends of portfolio ventures  The decisions on holding or leaving the losing compared to winning investments differ significantly conditional on the degree of competitive framing of the environment  Initial venture competition and interaction gave incentives for a more rational management of acquired ventures  Selling winners early decreases experimental earnings  Competition participants significantly better at venture management than No-Competition (t=2.48, p<0.02) and Assignment participants (t=-2.19, p<0.04)

9. ESA World Meeting 2007, Rome June 29, 2007 RESULTS (2)  Optimal Strategy Analysis  tracing reasons for earnings’ decreases

10. ESA World Meeting 2007, Rome June 29, 2007 THANK YOU!