Behavioral Finance

CHAPTER 11

Inertial Effects

Imagine two identical people making a choice between two options, option A and option B. The only difference between the two people is that the first starts at A and is asked whether or not he or she would like to move to B, whereas the second starts at B and is offered the ability to move to A.

It might be surprising to find that the majority of the time, individuals in these situations tend to stay where they start, regardless of the context around the decision choice or with which option they began. Experiments show that individuals tend to stick with the status quo, and that tendency persists across a variety of scenarios and in a variety of contexts. In this chapter, we explore the research that investigates such phenomena as well as the consequences of the outcomes such behavior elicits.

ENDOWMENT EFFECT

In The Winner's Curse, Richard Thaler tells the story of a wine-loving economist.1 As the story goes, this particular oenophile purchased several bottles of exquisite Bordeaux wine at auction years ago at extremely low prices, $10 per bottle. The wine has since appreciated significantly in value, and now routinely sells for $200 per bottle at auction.

The economist enjoys one bottle from his collection each year. One day, the economist finds himself conversing with a student who shares his affinity for wine. The student asks why the professor does not purchase more of his beloved wine at auction, and the professor replies that the prices have ...