Finance - Research Publications
Now showing items 1-12 of 104
Uncertainty and computational complexity
(Royal Society, The, 2018-12-31)
Modern theories of decision-making typically model uncertainty about decision options using the tools of probability theory. This is exemplified by the Savage framework, the most popular framework in decision-making research. There, decision-makers are assumed to choose from among available decision options as if they maximized subjective expected utility, which is given by the utilities of outcomes in different states weighted with subjective beliefs about the occurrence of those states. Beliefs are captured by probabilities and new information is incorporated using Bayes’ Law. The primary concern of the Savage framework is to ensure that decision-makers’ choices are rational. Here, we use concepts from computational complexity theory to expose two major weaknesses of the framework. Firstly, we argue that in most situations, subjective utility maximization is computationally intractable, which means that the Savage axioms are implausible. We discuss empirical evidence supporting this claim. Secondly, we argue that there exist many decision situations in which the nature of uncertainty is such that (random) sampling in combination with Bayes’ Law is an ineffective strategy to reduce uncertainty. We discuss several implications of these weaknesses from both an empirical and a normative perspective.
Defining Compulsive Behavior
(Springer Verlag, 2019-03-15)
Compulsive tendencies are a central feature of problematic human behavior and thereby are of great interest to the scientific and clinical community. However, no consensus exists about the precise meaning of ‘compulsivity,’ creating confusion in the field and hampering comparison across psychiatric disorders. A vague conceptualization makes compulsivity a moving target encompassing a fluctuating variety of behaviors, which is unlikely to improve the new dimension-based psychiatric or psychopathology approach. This article aims to help progress the definition of what constitutes compulsive behavior, cross-diagnostically, by analyzing different definitions in the psychiatric literature. We searched PubMed for articles in human psychiatric research with ‘compulsive behavior’ or ‘compulsivity’ in the title that focused on the broader concept of compulsivity—returning 28 articles with nine original definitions. Within the definitions, we separated three types of descriptive elements: phenomenological, observational and explanatory. The elements most applicable, cross-diagnostically, resulted in this definition: Compulsive behavior consists of repetitive acts that are characterized by the feeling that one ‘has to’ perform them while one is aware that these acts are not in line with one’s overall goal. Having a more unified definition for compulsive behavior will make its meaning precise and explicit, and therefore more transferable and testable across clinical and non-clinical populations.
Separating Probability and Reversal Learning in a Novel Probabilistic Reversal Learning Task for Mice
(Frontiers Media SA, 2020-01-09)
The exploration/exploitation tradeoff – pursuing a known reward vs. sampling from lesser known options in the hope of finding a better payoff – is a fundamental aspect of learning and decision making. In humans, this has been studied using multi-armed bandit tasks. The same processes have also been studied using simplified probabilistic reversal learning (PRL) tasks with binary choices. Our investigations suggest that protocols previously used to explore PRL in mice may prove beyond their cognitive capacities, with animals performing at a no-better-than-chance level. We sought a novel probabilistic learning task to improve behavioral responding in mice, whilst allowing the investigation of the exploration/exploitation tradeoff in decision making. To achieve this, we developed a two-lever operant chamber task with levers corresponding to different probabilities (high/low) of receiving a saccharin reward, reversing the reward contingencies associated with levers once animals reached a threshold of 80% responding at the high rewarding lever. We found that, unlike in existing PRL tasks, mice are able to learn and behave near optimally with 80% high/20% low reward probabilities. Altering the reward contingencies towards equality showed that some mice displayed preference for the high rewarding lever with probabilities as close as 60% high/40% low. Additionally, we show that animal choice behavior can be effectively modelled using reinforcement learning (RL) models incorporating learning rates for positive and negative prediction error, a perseveration parameter, and a noise parameter. This new decision task, coupled with RL analyses, advances access to investigate the neuroscience of the exploration/exploitation tradeoff in decision making.
Extrinsic Factors Underlying Food Valuation in the Human Brain
(Frontiers Media SA, 2020)
Subjective values for food rewards guide our dietary choices. There is growing evidence that value signals are constructed in the brain by integrating multiple types of information about flavor, taste, and nutritional attributes of the foods. However, much less is known about the influence of food-extrinsic factors such as labels, brands, prices, and packaging designs. In this mini-review article, we outline recent findings in decision neuroscience, consumer psychology, and food science about the effect of extrinsic factors on food value computations in the human brain. To date, studies have demonstrated that, while the integrated value signal is encoded in the ventromedial prefrontal cortex, information on the extrinsic factors of the food is encoded in diverse brain regions previously implicated in a wide range of functions: cognitive control, memory, emotion and reward processing. We suggest that a comprehensive understanding of food valuation requires elucidation of the mechanisms behind integrating extrinsic factors in the brain to compute an overall subjective value signal.
Collective chasing behavior between cooperators and defectors in the spatial prisoner's dilemma.
(Public Library of Science (PLoS), 2013)
Cooperation is one of the essential factors for all biological organisms in major evolutionary transitions. Recent studies have investigated the effect of migration for the evolution of cooperation. However, little is known about whether and how an individuals' cooperativeness coevolves with mobility. One possibility is that mobility enhances cooperation by enabling cooperators to escape from defectors and form clusters; the other possibility is that mobility inhibits cooperation by helping the defectors to catch and exploit the groups of cooperators. In this study we investigate the coevolutionary dynamics by using the prisoner's dilemma game model on a lattice structure. The computer simulations demonstrate that natural selection maintains cooperation in the form of evolutionary chasing between the cooperators and defectors. First, cooperative groups grow and collectively move in the same direction. Then, mutant defectors emerge and invade the cooperative groups, after which the defectors exploit the cooperators. Then other cooperative groups emerge due to mutation and the cycle is repeated. Here, it is worth noting that, as a result of natural selection, the mobility evolves towards directional migration, but not to random or completely fixed migration. Furthermore, with directional migration, the rate of global population extinction is lower when compared with other cases without the evolution of mobility (i.e., when mobility is preset to random or fixed). These findings illustrate the coevolutionary dynamics of cooperation and mobility through the directional chasing between cooperators and defectors.
Led into Temptation? Rewarding Brand Logos Bias the Neural Encoding of Incidental Economic Decisions
(PUBLIC LIBRARY SCIENCE, 2012-03-30)
Human decision-making is driven by subjective values assigned to alternative choice options. These valuations are based on reward cues. It is unknown, however, whether complex reward cues, such as brand logos, may bias the neural encoding of subjective value in unrelated decisions. In this functional magnetic resonance imaging (fMRI) study, we subliminally presented brand logos preceding intertemporal choices. We demonstrated that priming biased participants' preferences towards more immediate rewards in the subsequent temporal discounting task. This was associated with modulations of the neural encoding of subjective values of choice options in a network of brain regions, including but not restricted to medial prefrontal cortex. Our findings demonstrate the general susceptibility of the human decision making system to apparently incidental contextual information. We conclude that the brain incorporates seemingly unrelated value information that modifies decision making outside the decision-maker's awareness.
Effective brain connectivity at rest is associated with choice-induced preference formation.
Preferences can change as a consequence of making a hard decision whereby the value of chosen options increases and the value of rejected options decreases. Such choice-induced preference changes have been associated with brain areas detecting choice conflict (anterior cingulate cortex, ACC), updating stimulus value (dorsolateral prefrontal cortex, dlPFC) and supporting memory of stimulus value (hippocampus and ventromedial prefrontal cortex, vmPFC). Here we investigated whether resting-state neuronal activity within these regions is associated with the magnitude of individuals' preference updates. We fitted a dynamic causal model (DCM) to resting-state neuronal activity in the spectral domain (spDCM) and estimated the causal connectivity among core regions involved in preference formation following hard choices. The extent of individuals' choice-induced preference changes were found to be associated with a diminished resting-state excitation between the left dlPFC and the vmPFC, whereas preference consistency was related to a higher resting-state excitation from the ACC to the left hippocampus and vmPFC. Our results point to a model of preference formation during which the dynamic network configurations between left dlPFC, ACC, vmPFC and left hippocampus at rest are linked to preference change or stability.
The Cross-Sectional Spillovers of Single Stock Circuit Breakers
(World Scientific Publ Co Pte Ltd, 2018-09-01)
This paper uses transaction data to estimate how single stock circuit breakers on the London Stock Exchange affect other stocks that remain in continuous trading. This “spillover” effect is estimated by calculating the effect of a trading halt on the market quality of stocks that remain in continuous trading and comparing this with the effect of a stock whose absolute returns are of a magnitude nearly sufficient to trigger a trading halt but do not do so. Market quality is measured using a combination of trading costs, volatility and volume. In the two-month period we study, characterized by a relatively volatile trading environment, we find that circuit breakers lead to a significant improvement in the liquidity, and reduction in the volatility, of stocks that remain in continuous trading. This suggests that — at least over the period covered by our data — single stock circuit breakers can play an important role in reducing the spillover of poor market quality across stocks.
Why Do Option Prices Predict Stock Returns? The Role of Price Pressure in the Stock Market
(Institute for Operations Research and the Management Sciences (INFORMS), 2020-09-01)
Stock and options markets can disagree about a stock’s value because of informed trading in options and/or price pressure in the stock. The predictability of stock returns based on this cross-market discrepancy in values is especially strong when accompanied by stock price pressure, and it does not depend on trading in options. We argue that option-implied prices provide an anchor for fundamental stock values that helps to distinguish stock price movements resulting from pressure versus news. Overall, our results are consistent with stock price pressure being the primary driver of the option price-based stock return predictability.
Markowitz in the brain?
(Editions Dalloz, 2008)
Brain-scanning (fMRI) evidence is presented that activity in certain sub-cortical structures of the human brain correlate with changes in expected reward, and with risk. Risk is measured by variance of payoff, as in Markowitz’ theory. These brain structures form part of the dopaminergic system (which consists of the neurons that emit a crucial chemical, namely, dopamine, and the areas to which the dopamine neurons project). The dopaminergic system has been known to regulate reward expectation. We show that it is involved in risk perception as well. As such, our findings support for the human brain what recently had been discovered in the primate brain (using single-neuron analysis instead of fMRI).
Riding the Bubble with Convex Incentives
(Oxford University Press (OUP), 2019-04-01)
We show that benchmark-linked convex incentives can lead risk-averse money managers aware of mispricing to overinvest in overpriced securities. In the model, the managers’ risk-seeking behavior varies in response to the interaction of mispricing with convexity and benchmarking concerns. Convexity effects can exacerbate the manager’s overinvestment in overvalued nonbenchmark securities. In contrast, they potentially offset the benchmarking effects studied in the literature, leading to underinvestment in overpriced benchmark securities. Under correlated mispricing across assets, our model rationalizes positive positions in nonbenchmark, negative risk premium (i.e., “bubble”) securities and “pairs trading” in two overvalued securities. Our findings help explain several empirical puzzles.
Can Socially Responsible Firms Survive Competition? An Analysis of Corporate Employee Matching Grant Schemes
(Oxford University Press (OUP), 2019-02-01)
Employee matching grant schemes are coordination mechanisms that reduce free-riding by socially conscious employee-donors. Matching schemes coupled with lower take-home pay than offered by non-matching firms will survive capital and labor market competition if employee type is not observable and socially conscious employees are more productive or value working together. Matching can enhance employee welfare and raise more for charity without reducing profits. We document that matching firms have higher labor productivity and are more likely to be ranked as one of the “100 Best” employers. The result is robust to managerial entrenchment concerns and is not confined to the high-tech sector.