An Empirical Examination of the Impact of Locus of Control on Investor Behavioral Biases

The purpose of this paper is to examine the relationship between locus of control and behavioral biases (emotional and cognitive) in investor decision-making. Our research involved three stages. In the first stage, we undertook an exhaustive review of the existing literature to identify 20 commonly occurring biases in investor decision making. In the second stage, we individually studied each bias to identify and develop instruments for measuring these biases in investor decision making. During the pilot phase, based on exploratory factor analysis, some of these biases were clubbed together. Confirmatory factor analysis was conducted to develop a validated instrument for measuring these biases. In stage three, the finalized questionnaire along with Levenson’s locus of control was administered on a group of investors across the country and 618 responses were received. The results of this study have revealed underlying patterns within biases based on the Individual Control, Powerful others and Chance control. Investors with a high score on individual control showed significant differences and had a stronger inclination to being prone to Mental Accounting, Self Control, Framing, Illusion of Control, Regret Aversion, Recency, Availability, Anchoring and Adjustment, Optimism, Confirmation, Overconfidence and Endowment related biases. Further, Individuals having higher Chance control scores had a higher inclination to having cognitive dissonance within their investment decision making. Thus, results from this study helped understand the impact of locus of control on investor biases and preferences to facilitate the identification of an investor’s predisposition towards particular investing choices. This also serves as a mechanism to identify whether investors have an underlying inclination towards specific biases in investment decision making. This identification can facilitate remediation or corrective actions on part of the investor based on whether he has an internal or an external locus of control.