The Effect of Information Strength and Weight on Behavior in Financial Markets

Abstract

Griffin and Tversky (1992) explain evidence of individual over- and underconfidence as resulting from attending too much to the strength (i.e., extremity) of information and not enough to the weight (i.e., statistical reliability) of information. We report two experiments that demonstrate how information strength and weight affect confidence, trading, prices, and wealth in laboratory markets. Our results indicate that information strength and weight affect individual over- and underconfidence and that market participants lack sufficient self-insight to avoid trading when they are biased. As a consequence, market prices are biased, and market participants with high-strength, low-weight information systematically transfer wealth to participants with low-strength, high-weight information.