New experimental evidence on the relationship between home bias, ambiguity aversion and familiarity heuristics

Abstract

We study portfolio diversification in an experimental decision task, where asset returns depend on a draw from an ambiguous urn. Holding other information constant and controlling for the level of ambiguity, we find that labeling assets as being familiar or from the homeland of subjects increases portfolio weights by around 25 %, respectively, although the return-generating process remains unaffected. Importantly, we only find these effects when the returns of assets are highly ambiguous. As a result, familiarity and home-land sympathy can lead to portfolios containing more assets with high ambiguity, i.e., bear greater downside risk. Our results disentangle the effects of familiarity and ambiguity as two prominent behavioral explanations of home bias and provide evidence for recent theoretical models on portfolio allocation under ambiguity.