Individual Investors' Behavior in the Stock Market The examination of private investor data at the individual level already

began in the1970's. In a whole series of papers based on brokerage account data and a large survey, Cohn, Lease, Lewellen, and Schlarbaum5 were the rest to describe several stylized facts about the actual trading behavior of individual investors. Besides showing a wide variety of demographic facts about individual investors, they are able to infer investors' attitudes towards risk by looking at the self-reported overall portfolio composition of the investors. They also report the dependence of the investment style of the investors on age, income, and gender; denying the influence of other demographics. They also and that individual Investors show some skill when it comes to security selection, but after correcting for Transaction costs, the net returns realized are indistinguishably deferent from passive Investment strategy returns. After those early studies, it took about 20 years until the Trading behavior of individual investors went back into the spotlight of financial research. This attention is mainly due to the emergence of different data sets from discount and Online brokers, rest from the US and then from around the world. When it comes to analyzing determines transaction behavior, it is essential to differentiate between buying and selling. This is because the motives for both groups of Transactions might be different. As Barber and Odean (2007) point out that a problem in the decision process which stocks to buy and sell is the bounded rationality of decision Makers with cognitive and temporal limits. Individual investors have to choose from a Wide range of investment opportunities if they want to purchase a stock, but are limited To the stocks they hold in their portfolio if they consider to sell.6 the authors show that Individual investors' buying decisions on the stock market are more attention-based than Their selling behavior. On the other hand, motives for a sale of stocks may possibly be rebalancing or liquidity needs, but also a valuation of the asset in comparison to the purchase price might influence the decision to sell a stock. Although most of the following Studies look at purchases as well as sales; we provide results for determinants of purchase Transactions rest and we look at sale transactions in the next section.

Buying Behavior A large number of authors test whether past returns influence the trading decisions of Individual investors. Barber and Odean (2007) show that individual investors are net buyers of stocks with high absolute returns. There are mixed results concerning the direction of the

influence of returns on the propensity of individual investors to buy stocks. Two Competing theories emerged: positive vs. negative feedback trading. While momentum Investors buy stocks after their value increased; contrarians tend to buy stocks that have lost value prior to the purchase. For short horizons, most authors and a negative relation between past days returns and net buying of individual investors. His short-term contrarian buying behavior is reported for several markets, including the US (Grain, Harris, and Topaloglu (2003)), Finland (Grinblatt and Keloharju (2000) and Grinblatt and Keloharju (2001b)), Korea (Choe, Kho, and Stulz (1999)), and Australia (Jackson (2003)). Only for Germany, Dorn, Huberman, and Sengmueller (2007) and a positive relation for retail investor buying and returns the day before, while the return two days before is significantly negatively related to net purchases. For longer horizons (4 month to 2 years), several authors and positive feedback buying in different stock markets. A positive correlation of purchases and past returns was found in the US by Odean (1999) and Barber, Odean, and Zhu (2003), in China by Chen, Kim, Nofsinger, and Rui (2005), and in Japan by Kim and Nofsinger (2002). Barber, Odean, and Strahilevitz (2004) show that stocks that were sold for a gain or have decreased in value since they were previously sold are more likely to be repurchased by an individual investor. Furthermore, in sequential round-trip trades, investors tend to buy additional shares if the price of the stock is lower than the initial Price when they rest bought the stock. Besides past returns, additional determinants of the buying behavior are analyzed, most elaborated by Grinblatt and Keloharju (2001b). They and influence of several demographics (e.g. age and gender) on the propensity to buy stocks. In addition, volatility and monthly highs and lows of the stocks also influence the buying behavior. Kumar and Dhar (2002) and that 3-month lows can influence the buying decision, especially for contrarian investors. Grinblatt and Keloharju (2001a) show that Finnish investors are most likely to buy stocks from rms which have their headquarter nearby, also known as home bias.

Selling Behavior Similar to the buying behavior, the selling behavior of individual investors is influenced By demographics, volatility and prominent prices like highs and lows (see Grinblatt and Keloharju (2001b), Kumar and Dhar (2002), and Chen, Kim, Nofsinger, and Rui (2005)). The strongest influence on the selling decision have past returns. In contrast to the positive feedback buying (i.e. buying after high past returns over longer horizons) in the long-run, the

same studies and negative feedback trading when it comes to selling stocks (see Odean (1999), Kim and Nofsinger (2002), and Barber, Odean, and Zhu (2003)). They report that not only purchases but also sales are positively influenced by high past returns. This is contrarian behavior. The same holds for short-term feedback trading. Investors tend to sell stocks if the past days' returns are positive (see Grian, Harris, and Topaloglu (2003) and Jackson (2003)). This return pattern is consistent with the disposition effect. This effect was rest analyzed by Schlarbaum, Lewellen, and Lease (1978b) and Shefrin and Statman (1985). The tendency to sell winners too early and hold on to losing stocks for an unusually long period of time was documented for individual investors in several markets. The disposition effect exists in the US (Odean (1998)), Finland (Grinblatt and Keloharju (2001b)), Israel (Shapira and Venezia (2001)), China (Chen, Kim, Nofsinger, and Rui (2005)), and Germany (Weber andWelfens (2006)). As Odean (1998) points out, it is hard to disentangle investors' selling behavior based on beliefs of mean reversion in future stock prices (no matter whether their beliefs are right or wrong) from the behavior according to their reluctance to realize losses. Both hypotheses would predict that investors more readily sell stocks that have risen in the past. In an experimental setting with and without an automatic selling condition, Weber and Camerer (1998) show that the disposition effects much weaker if stocks are sold automatically after every period, and that investors falsely believe in mean reversion of stock prices although they should know about the trending behavior of the stocks. Badrinath and Lewellen (1991), Odean (1998), and Grinblatt and Keloharju (2004) show that the disposition effect is reversed in December, which is due To tax-motivated selling, according to the authors. Investors activity and trading behavior The first essay analyzes the trading behavior of active vs. passive investors during the boom period in technology stocks between 1997 and 2000. Traditionally, investor behavior studies classify investors using some non-behavioral characterization such as individual vs. institutional investors, foreign vs. domestic investors, or local vs. non-local investors. This paper instead uses the behavioral characterization of investors based on trading activity. Stock market trading activity increased considerably during the last years of the millennium coinciding with the unprecedented bubble in stock prices. The main contribution of this study is to show how trading activity relates to trading strategies such as herding, momentum trading and growth investing in

the context of the technology stock boom. The essay first seeks to answer the following research questions: Do active and passive investors herd in their trading decisions? Is there a difference between investor classes in the strength of the herding? Does herding exhibit any systematic pattern over time? We measure herding using the index developed by Lakonishok, Shleifer and Vishny (1992). This index considers herding taking place when a larger number of investors are trading on one side of the market than would be expected if they were to trade randomly. We find that both active and passive investors tend to herd in their trading decisions. The absolute level of passive investors herding is much higher than that of active investors. There is, however, an interesting trend present in the herding of active investors: their herding increases monotonically year on year. This is consistent with the hypothesis that active investors increased herding contributed to the bubble. The essay then proceeds by analyzing how trading activity relates to momentum and contrarian strategies. The focus in this essay is on the crosssectional momentum trading, implying that winners and losers are defined in relation to the returns of other stocks rather than their own return history. This research design seeks to answer the question which investors, active or passive, tended to primarily buy stocks which were subject to the most severe bubbles. Using the volume-based measures of investors trade pressure, we find that active investors are momentum traders over all past return horizons. Symmetrically, passive investors tend to follow contrarian investment strategies. The results of active investors, however, are sensitive to whether volume or number of traders is used to construct trade pressure measures. Applying the measure based on the number of traders eliminates the momentum trading tendency. Since the volume-based measure puts relatively more weight on the large trades, these findings suggest that active investors conducting large trades are particularly prone to momentum trading strategies. This finding is consistent with the intuition that momentum strategies are considered shorter-term strategies than contrarian strategies. The third aspect of investor behavior that we analyze in this paper is growth and value Strategies. The stocks with book-to-market ratio lying in the lowest quarter of the sample stocks are defined to be growth stocks, whereas the top quarter consists of value stocks. The motivation for the growth vs. value sorting is that the bubble was particularly severe among growth stocks. We find that active investors tended to systematically buy growth stocks during the boom period. Active investors growth investment appetite turned towards value stocks during the year 2000, coinciding with the bursting of the bubble. Finally, we analyze the returns around investors

trade pressures. Most importantly, contemporaneous daily returns are positively associated with buy pressures of active investors, suggesting that active investors either move prices or/and engage in intraday momentum trading. Overall, our results suggest that active investors did contribute to the bubble in IT stocks. Day trading and stock price volatility The second essay analyzes the relation between day trading and intraday volatility of stock prices. The main contribution of this essay is to show that day trading of individual investors and intraday volatility of stock prices are positively related for a set of most heavily day traded stocks. Idiosyncratic volatility matters for under diversified portfolios. Unreported work with the Finnish data shows that portfolios of individual investors are strikingly focused. A large number of individual investors hold only a single stock. The focus of this essay is on the relation between the day trading of individual investors and intraday volatility of stock prices. Based on the earlier literature, it is reasonable to assume that day trading of individual investors is a good proxy for noise trading, because individual investors tend to perform worse than other investor classes on the market (Grinblatt and Keloharju 2000) and active trading seems to impair their performance (Odean 1999). Because day trading became popular among Finnish investors during the boom in IT stocks at the end of the decade, I choose to focus on the research period from 1999-2003. The top ten stocks ranked by the fraction of individual investors day trades of total number of trades are analyzed. The paper also uses financial and non-financial firms as control groups. It is not obvious ex ante whether day trading should be positively or negatively related to volatility. Day trading increases market depth by proving additional liquidity and, therefore, potentially decreasing the volatility (Barber and Odean 2001). On the other hand, day trading tends to create buy pressures at the beginning of the trading session, and selling pressures near the closing of the market (Linnainmaa 2003). Moreover, trading strategies used by day traders may induce them to herd via past prices (Barber and Odean 2001). The efficient market hypothesis suggests that noise trading does not affect prices. If noise trading by individual investors is a good proxy for noise trading, the EMH would predict no relation between day trading and volatility. If the relation between day trading and volatility is mainly driven by noise trading rather than the information based reasons, I would expect the relation to be stronger with individual rather than

Institutional investors. I must also be cautious in interpreting the results, because there could be a causality issue present. It could be that high volatility days induce day trading rather than vice versa. I measure intraday volatility using the daily log range. The range is the difference Between maximum and minimum prices during the day. I use various explanatory variables for controlling the previously documented regularities in volatility. As was discussed above, perhaps the most widely documented empirical regularity in volatility is the positive volume-volatility relation. Both share trading volume and total number of trades are used to control for the volume-volatility relation. The regression results also show a positive volume-volatility relation with our sample of Finnish stocks. Consistent with Jones, Kaul and Lipson (1994), this relation is somewhat stronger when the number of transactions instead of trading volume is used as a measure of trading activity. This essay focuses on the relation between decomposed day trading volume and volatility. I decompose the day trading volume of a given investor class into number of day trades and average size of day trade. The main contribution of this essay is to document a strong positive relation between the number of individual investors day trades and volatility even after controlling for the volume-volatility relation. This result is found to be consistent across sub periods and individual stocks. However, the relation between the day trading of institutional investors and volatility seems to be much weaker. Capital gains and investors reactions to earnings announcements This essay analyzes how investors with different levels of capital gains react to earnings announcements. The combination of prospect theory and mental accounting framework suggests that both the sign and magnitude of capital gains should affect investor behavior. The first hypothesis states that an earnings announcement triggers more abnormal selling in the investor classes holding capital gains rather than losses. This hypothesis is motivated by the study of Frazzini (2006), which suggests that the disposition effect may result in underreaction to earnings announcement. The second hypothesis proposes that earnings announcements trigger more abnormal selling in those investor classes that are holding small gains or losses rather than large gains or losses. This hypothesis derives from the prospect theory value function which is steepest at the reference point. When an investor is further away from the reference point (purchase price of a stock), changes in the level of wealth have smaller effects on the perceived utility. This property of the value function suggests that an investor carrying either small gains or losses has a relatively strong emotional desire to pay attention to and use the earnings

announcement information. To test these hypotheses, I first classify investors either as individual investors or institutions. In the next phase, within both investor categories separately, I classify Investors into one of the four capital gain classes. The capital gain and loss classes are as follows: large losses (over 20%), small losses (0-20%), small gains (0-20%), and large gains (over 20%). In addition, I also use return volatility adjusted cut-off points. Capital gains are measured at the end of the earnings announcement day. Three alternative methods to compute the purchase price of a stock are used. These methods are the first in- first-out (FIFO), last-infirst-out (LIFO), and mean-in-first-out (MIFO). Since the results are found to be insensitive to the choice of accounting method we report only those results obtained using the MIFO principle. I use the same Finnish Central Securities database as in the other essays to compute abnormal selling volumes around the earnings announcements. The research period is 1997-2003. The abnormal selling around earnings announcement is measured against the normal volume benchmark. The normal volume is computed separately for each event and investor class as a daily mean sell volume over the estimation period, which in turn is defined to be -60 to -4 days before the event. I find that abnormal selling following earnings announcement tends to be higher when individual investors are holding capital gains rather than losses. This finding confirms the disposition effect in the context of earnings announcement. Furthermore, individual Investors carrying large rather than small gains/losses react less to earnings announcement. The highest abnormal trading volume is found in the small gain category, which is exactly what we expect under the prospect theory. The behavior of institutional investors, however, seems to be less affected by the psychological premises underlying the prospect theory.