Investor Memory and Biased Beliefs: Evidence from the Field

We survey a large representative sample of retail investors in China to elicit their memories of stock market investment and return expectations. We merge the survey data with administrative data of transactions to test a model in which investors selectively recall past experiences similar to the present cue to form beliefs. Our analysis uncovers new facts about investor memory and supports similarity-based recall as a key mechanism of belief formation in financial markets. When the market is going up, it cues investors to retrieve episodes of rising markets and recall their past performance more positively. Recalled experiences explain a sizable fraction of cross-investor variation in beliefs and dominate actual experiences in explanatory power. Recalled experiences also drive out the explanatory power of recent returns for expected future returns, ruling in a memory-based foundation for return extrapolation.

Download