Individualism as a driver of overconfidence, and its effect on industry level returns and volatility across multiple countries

Abstract

This study attempts to determine the possible effects of individualism on industry volatility. The implications of this for behavioural finance are extensive, showing firstly that different industries react differently to behavioural biases and secondly that overconfidence is a possible driver of the positive effect of individualism on industry volatility. The country selection process was relatively objective, taking two countries with high individualism indexes and two with low indexes and including one with a medium index value. The result was a sample of the United States of America, the United Kingdom, South Africa, China and Taiwan. The industry selection process was more subjective. Industries were selected which should have a higher propensity to behavioural biases with lower book to market ratios (software and computer services industry and pharmaceutical and biotechnology industry) and other industries which should not be as strongly affected by behavioural biases (banks, mining, oil and gas producers, and mobile telecommunications industries). In order to correct for ARCH effects the series’ were modelled using a GARCH (1, 1) model. The resulting residuals, which showed no autocorrelation, were then used to conduct panel data regressions on each of the industries. The results confirmed that individualism had a positive effect on volatility in the industries which were expected (software and computer services and pharmaceuticals and biotechnology industries). However, it was also determined that the banks industry was significantly affected by individualism, an effect which it was hypothesised, was due to the individualism of employees as opposed to investors.