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Über dieses Buch

This book helps readers understand the widely documented distortion in the portfolio choice of individual investors toward proximate firms – the proximity bias phenomenon. First, it recapitulates the fundamentals of modern portfolio theory. It then goes on to describe and demonstrate different approaches on how to measure proximity bias and identifies and examines potential motives and reasons for such a bias. In addition, the book presents new analysis on the financial effects of individual investors’ proximity bias, explaining and contributing with possible policy implications on their portfolio distortion. This book will be of interest to students and researchers, as well as decision-makers in business firms and households.



Chapter 1. Introduction

The rationale for the widely documented proximity bias in investors’ portfolio choice is yet today a shrouded mystery far from being satisfactory explained. In the contemporary portfolio choice literature, the phenomenon is commonly recognized as the home bias puzzle and the local bias puzzle, respectively. Hence, in this book, it will be referred to as the proximity bias puzzle. The book’s main purpose is to lay a foundation for understanding the proximity bias phenomenon more in depth by first recapitulating the fundamentals of modern portfolio theory. Thereafter, we describe and demonstrate different approaches on how to measure investors’ proximity bias, identify and examine potential motives and reasons for their bias, and, finally, distinguish, elaborate upon, and explain possible policy implications of the proximity bias in investors’ portfolio choice. The outcome of the book should inform students in business, economics, and finance, researchers and decision makers in business firms, other organizations and households on how investors allocate their equity portfolios with the emphasis particularly on investment, governance, and regulatory policy implications.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Porfolio Theory, Decision-Making and Market Efficiency


Chapter 2. Investors’ Portfolio Choice and Portfolio Theory

This chapter introduces modern portfolio theory by first following the work of Markowitz and discussing how an optimizing investor would behave. Second, the chapter reviews the portfolio theory that is concerned with economic equilibrium assuming all investors optimize in the particular manner, the work by Sharpe and Lintner on capital asset pricing model (CAPM). The chapter also discusses the ways in which portfolio theory differs from the theory of the firm and the theory of the consumer behavior. Although diversification is a common and reasonable investment practice, understanding how uncertainty influences investments in these different markets is essential to the analysis of rational investment behavior.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 3. Decision-Making—Rational, Bounded, or Behavioral

This chapter covers decision-making under uncertainty. The main focus is on economic reasoning and the properties of expected utility functions. The chapter discusses and exemplifies alternative ways in which an investor may form decisions under uncertainty. To be rational in its simplest form implies that individuals know their preferences, can identify their options and assign probabilities for each possible outcome. In this chapter we discuss what happens if we relax these assumptions and instead describe decision making as rationally bounded, governed by heuristics or behaviorally rooted.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 4. Market Efficiency and the Standard Asset Pricing Models Used to Test Market Efficiency

This chapter reviews the efficient market hypothesis (EMH), proposed by Fama in 1970s. We discuss and exemplify the applications of the hypothesis that the equities are perfectly priced according to their characteristics, meaning that the market prices reflect the information made available to investors at any given time. The main focus of the chapter is to explore the relevance of the efficient market theory to the proximity-biased investors. We also review the standard asset pricing models used to test EMH.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Investor Behavior, Proximity Bias and Firms’ Capital Structure


Chapter 5. The Financial Behavior of Individual Investors

The economic models that underlie the previous chapters built on the strong assumption that investors are rational agents who aim at maximizing their wealth while minimizing risk. These investors are able to assess the risk and return of all possible investment opportunities and hold a portfolio that satisfies their level of risk aversion. In contrast, the recent empirical evidence shows that real individual investors behave differently from investors in these models. In what follows, this chapter reviews the most recent findings on individual investor trading and the trade performance.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 6. The Measurement of Proximity Bias

This chapter focuses on the development of appropriate proximity bias measures. In international studies, country borders are more or less natural dividing lines when determining the extent to which investors are home biased or foreign biased. It is less evident how to determine to what extent investors are locally biased within a country. Domestic studies use either a distance-based or a non-distance-based, community-oriented definition of geographical-proximity bias. In this chapter, we review the commonly adopted proximity bias measures in the literature and propose ways to further develop these measures.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 7. Motives and Reasons for Proximity Bias

This chapter presents and discusses the explanations for the proximity bias of investors based on the contemporary literature. The proximity bias of investors despite the well-documented gains from diversification still remains an unresolved empirical puzzle in the finance literature. Previous research offers a number of explanations for the proximity bias. In the international context, these explanations focus on, for instance, barriers to international investments such as foreign taxes, governmental restrictions on foreign and domestic investments, high transaction costs, exchange rate fluctuations, sovereign risk, cultural differences, language, hedging, and information asymmetry. In the domestic context, this strong preference might be explained by the information asymmetry, familiarity hypothesis, the passiveness of investors, or indisputable preference of investors. Our main focus is on the explanations for the domestic context.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 8. Local Bias and Capital Structure

In this chapter, we aim to analyze whether the local bias of investors has any impact on the capital structure of firms. We discuss the decision-making within firms regarding their choice of financing and explore the existing capital structure literature related to proximity bias. We also perform an empirical test on the relation between a firms’ leverage and its local ownership. Particular interest is put on questions such as the following: Are firms with more local shareholders more or less leveraged than firms with more remote shareholders? What does this mean for the firm value? To what extent—if any—do local investors act as monitoring device? Does it matter whether investors are domestic or foreign? Are there systematic differences in local bias and the capital structure formation of local firms and multinational firms?

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

The Impact of Local Media, Portfolio Rebalancing and Financial Sophistication


Chapter 9. Local News and Active Trading

This chapter presents select preliminary findings from a recent study conducted by Mavruk (2016) on what role local media plays—if any—in the trading activity and equity returns in local markets. His study examines the sources of local information and tests its direct effects on the local investments made by individual investors. The focus is mainly on if and how news in local media affects the trading activity and portfolio returns of individual investors who exhibit proximity (locally and/or birthplace) bias. The results contribute to the local bias literature by allowing us to infer information asymmetry between proximate individual investors and other remote investors and also separate informed local trades from uninformed local trades. By paying more attention to the local webpage news, remote individual investors may reduce their information search costs, and hence information asymmetry between them and local investors.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 10. Portfolio Rebalancing by Individual Investors

In this chapter, we replicate the study of the rebalancing of mutual funds’ equity portfolios by Giannetti and Laeven (2016) on individual investors in Sweden. The authors find that mutual fund managers rebalance their equity portfolios, during time periods of high market volatility, by selling relatively fewer equities of local firms than of remote firms. We revise these results by examining whether aggregate uncertainty (defined as systematic risk factors) in the Swedish equity market leads individual investors to rebalance their equity portfolios toward local firms. Our results are consistent with the evidence from mutual fund investors shown in Giannetti and Laeven (2016). We contribute to their findings by documenting that the individual investors directly owning equities also exhibit such behavior and the results are stronger in urban regions.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 11. The Relation Between Local Bias, Home Bias, and Financial Sophistication

This chapter offers some insight for determining the importance of geography effects in international portfolio choice relative to the domestic proximity bias. Relatively few studies have examined the relation between local bias and home bias of individual investors, let alone assessed the extent to which their local bias contributes to the international home bias puzzle. In this chapter, we add to these findings by extrapolating our results in Lindblom et al (2016), on individual investors’ proximity bias within Sweden, to the international scale by estimating the distance adjusted portfolio share of the Swedish individual investors on 82 countries. In a further attempt to add to our knowledge, we also identify the determinants of foreign bias and test the hypothesis that individual investors are likely to exhibit less foreign bias toward particularly countries in which financial sophistication is higher.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren

Chapter 12. Conclusions and Implications

This chapter discusses the implications of proximity bias for investor welfare, market prices, firm-level cost of capital, and the market developments. We focus on the economic cost of proximity bias. We also discuss and analyze the implications of proximity bias on international markets. The diversification argument suggests that the relevant portfolio over which investors should diversify is the global market. We analyze the implications of domestic proximity bias on international portfolios and discuss the reasons for deviation from global diversification. This chapter concludes with a discussion of the key attributes of proximity-biased portfolios and some advice that students, investors, portfolio managers, and regulators should have a clear view of the determination and implications of proximity-biased portfolios on asset prices and investor welfare. This chapter also provides some suggestions for future research.

Ted Lindblom, Taylan Mavruk, Stefan Sjögren


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