Private investors blinded by returns

Press release 9 January 2012

It is not feelings of fear or optimism that influence the risks taken by private investors in the Netherlands, but past returns. They are ignoring the famous slogan ‘Past performance does not guarantee future results’. This not only contradicts the dominant financial-economic literature, it is also worrying says Dr Arvid Hoffmann, a researcher at Maastricht University. Together with Dr Thomas Post, he wrote the article ‘Fear and Optimism of Private Investors’ published on 6 January in the trade journal ESB. “It is likely that their returns do not sufficiently compensate the risks they are taking,” says Hoffmann. 

The behaviour of private investors influences pricing in financial markets and ultimately the economy as a whole. Until now, no research had been conducted on what shapes the risk tolerance, risk perception and anticipated returns of private investors. From April 2008 through March 2009, roughly 1400 private investors from the most important online broker in the Netherlands participated in a monthly survey on their expectations and perceptions, which were then combined with their transaction histories. These investors had an average age of 52 (8% of whom were women), an average investment time of three years with the online broker, and an average investment portfolio of €50,000.

Risk versus return
The most important finding was that feelings of fear and optimism are solely driven by past returns. Higher returns lead to higher investment expectations, higher risk tolerance and lower risk perception. The actual risk taken to attain such returns had little to no impact on these feelings. According to standard finance theories, it is precisely this balance between risk and return that makes investing so attractive. “It is therefore worrisome that private investors seem so unaware of the risks they are taking with their investments. Even during a financial crisis, this risk does not seem to influence their expectations; I find that disturbing,” says Hoffmann.

Advice for policymakers
Past research has shown that private investors do indeed expect high returns from safe stocks, while in practice, taking more risks generally leads to higher returns. The researchers therefore advise policymakers to encourage financial institutions to find an appealing way to make investment risks as clear and understandable as investment returns.


Note for the press:
For more information on the content of this press release, please contact Arvid Hoffmann on +31 6 1868 5678 or email a.hoffmann@maastrichtuniversity.nl.

The UM Marketing & Communications Department can be contacted on +31 43 388 5222 or at pers@maastrichtuniversity.nl. For urgent matters outside office hours, please call +31 6 4602 4992.

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