“INVESTMENT DECISION MAKING IN DEFINED CONTRIBUTION PENSION PLANS”...

11. “Investment Decision Making in Defined Contribution Pension Plans” The candidate should be able to: b) evaluate the impacts of status quo bias, myopic loss aversion, 1/n diversification, and the endorsement effect on DC plan participants’ investment decisions and the risk profile of their investment plans. 2008 Level III Guideline Answers Morning Session – Page 5 of 40 Question: 2 Topic: Portfolio Management – Individual/Behavioral Minutes: 9Guideline Answer: Template for Question 2 Select the behavioral finance concept best exhibited in each of Explain how the behavioral finance Donaldson’s three concept you selected affects Donaldson’s statement statements. Donaldson’s investment decision Note: No behavioral making. finance concept can be used more than once. (circle one) Donaldson knows the technology industry Nạve diversification and he considers himself an expert “My father was a buy-investor. Overconfidence frequently leads and-hold investor but I am an active trader. To to excessive trading and Overconfidencekeep trading costs low, I underperformance. Representativeness use an online brokerage firm. I have done well investing in technology Regret avoidance companies because I Self-control know the industry.” Donaldson’s reluctance to sell his losing “I am holding a large position in Omega position reflects both regret avoidance and Corporation with a large belief perseverance. To avoid the stress associated with admitting a mistake, he unrealized loss. hopes the stock will recover. Despite new Overconfidence Omega’s stock price information (slowing sales and lower than declined last year when expected sales and earnings), Donaldson reported sales and earnings failed to meet has held onto his beliefs. He has analyst expectations. I increased his position rather than admit a mistake by taking the loss. took advantage of the Regret decline to increase my avoidanceposition. Omega sales growth has continued to slow over the last year, but I believe the stock is still a good investment.” Morning Session – Page 6 of 40 Template for Question 2 (continued) “I read a newspaper Donaldson may have bought late in the article reporting that cycle, but believes that commercial commercial property property values will continue to increase. Donaldson, by relying on the values in the city have representativeness heuristic, has become increased 14 percent overly optimistic about a past winner. annually since 2000. According to the article, the average commercial property in the city sold for $1.5 million last year. This makes me very happy because I just purchased a piece of commercial property last month. There is no doubt that it will be a good investment.” Morning Session – Page 7 of 40 Question: 3 Topic: Portfolio Management – Institutional Minutes: 36 Reading Reference: