“Behavioral finance: the analysis of investor behavior based on belief and feeling and the investor rationality towards LQ 45 stocks”

This research analyzes behavioral finance, especially the behavior of investors in Yogyakarta, Indonesia Region. The performance of investor behavior is examined based on the LQ 45 stocks return on Indonesia Stock Exchange and questionnaires that are spread out to five securities agents in Yogyakarta. The performance of LQ 45 stocks return is compared to the questionnaire analysis in the “Belief” part at the first and second stages. The first result shows that LQ 45 stocks are profitable. It can be seen from the average return of the stocks that it has positive value and is statistically identical with the LQ 45 index return. This result is in line with the investors’ opinion that LQ 45 stocks are profitable. The second result shows that most of LQ 45 stocks are profitable and give high return. But, this result is also contrary to the opinion of investors towards traditional finance paradigm that investors still believe “high risk – high return, low risk – low return”. Although most of LQ 45 stocks are considered as low risk stocks, many investors prefer to choose LQ 45 stocks. It means that the traditional finance paradigm has weakness. It is proven that investors sometimes act irrationally. The third and fourth stages of the study are aimed to analyze the relationship between feeling and belief towards frequency of transaction each day based on the questionnaire using regression analysis. The result shows that there is significant relationship between feeling and frequency of transaction each day. Etty Indriani (Indonesia), Cahyani Tunggal Sari (Indonesia) BUSINESS PERSPECTIVES LLC “СPС “Business Perspectives” Hryhorii Skovoroda lane, 10, Sumy, 40022, Ukraine www.businessperspectives.org Behavioral finance: the analysis of investor behavior based on belief and feeling and the investor rationality towards LQ 45 stocks Received on: 15th of December, 2017 Accepted on: 22nd of February, 2018


INTRODUCTION
Traditional finance theory seems very simple.The basic fact of aggregate stock market, the cross-sections of average returns, and individual trading behavior in this research is not easy to understand.
In order to cover the weakness of traditional finance theory, there appears a new paradigm called behavioral finance.Behavioral finance is a new approach to financial market that has emerged, at least in part, in order to response the difficulties of traditional finance paradigm.Behavioral finance argues that some financial phenomena can plausibly be understood using models in which some agents are not fully rational.The field has two building blocks: limits to arbitrage, which argues that it can be difficult for rational traders to revise the dislocations caused by less rational traders; and psychology, which classifies the kinds of deviations from full rationality we might expect to see.Behavioral economists typically turn to the extensive experimental evidence compiled by cognitive psychologists on the biases that arise when they make the decision, they remember their beliefs or by people's preference.
Investment Management and Financial Innovations, Volume 15, Issue 1, 2018 Arbitrageurs would show the investor who are trading and move ahead from others (Delong et al., 1990;Abreu & Marcus, 2002, 2003).Goetzmann and Massimo (1999) find a strong index fund flows in line with daily index returns.While Edelen and Warner (2001) find evidence of mutual fund flows following returns.
Investors misjudged gains in wealth to their ability to pick stocks.As a result, they underestimate the variance of stock returns and trade more frequently in subsequent periods because of inappropriately tight error bounds around return forecast.Turnover of U.S. market is positively related to the lag market return in trading volume measure (Statman et al., 2006).
Using a sample of 3,000 individual investors over a 51-month period, Markus and Martin (2007) find that both past market return and past portfolio returns affect trading activity of individual investors (as measured by stock portfolio turnover, the number of stock transactions, and the probability to trade stocks in a given month).They presented evidence that individual investors, on average, are unable to give a correct estimate of their own past realized stocks portfolio performance.
Considering the controversial argument surrounding the issue related with behavioral finance and investor overconfidence, the writer decides to explore and investigate the issue empirically and in more depth on LQ 45 stocks listed on the Indonesia Stock Exchange (IDX).This study aims at analyzing the investor behavior based on belief and feeling and the investor rationality towards LQ 45 stocks.

LITERATURE REVIEW AND HYPOTHESES DEVELOPMENT
Behavioral finance argues that asset prices are interpreted as deviations that brought by the presence of traders who are not fully rational.Any disallocation caused by irrational traders will be revised by rational traders (Friedman, 1953).
There are two assertions from Friedman's argument.First, as soon as there is a deviation from the fundamental value, attractive investment opportunities are created.Secondly, with opportunities there will be correction by rational traders.Financial behavior does not take issue to the second step in this argument, where the emergence of attractive investment opportunities is not exploited quickly (Friedman, 1953).
Thought of financial terminology is very interesting in this research.Rational traders are often referred to as "arbitrageurs".In fact, arbitration is an investment strategy that offers fewer benefits at no cost.Rational traders known as arbitration create opportunities to reduce the risk of profit.Financial behavior argues that a rational merchant strategy does not have to be arbitration; it is just quite frequent and very risky (Friedman, 1953).

Excessive trading
The most prominent behavioral explanation of over-confident trading is where people believe that information circulating in the market is too weak.This hypothesis predicts that people are more confident to trade more often.Barber and Odean (2000) show that investors who trade the most are those who gain the lowest average rate of return.
Individual investors are beginning to shift from a phone-based trade to an online trade with increased trust.This increase in trust is due to better access to information and a higher level of control.In addition to this, the yields of investors who switched are higher thanthe yields of investors who still survive the old method (Barber & Odean, 2002).

The selling decision
Several studies find that investors are reluctant to sell assets, trading at a loss relative to the price at which they were purchased, this phenomenon is called "disposition effect" (Shefrin & Statman, 1985).Working with the same discount brokerage data used, Odean (1999) finds that the individual investors are more likely to sell stocks which have gone up in value relative to their purchase price, rather than stocks which have gone down.Two behavioral explanations of these findings have been suggested.First, investors may have an irrational belief in mean-reversion.Second, possibility relies on prospect theory and narrow firming.This time it is not loss aversion that is central, but rather the concavity (convexity) of the value function in the region of gains (loses).
The behavior of professional traders on the Treasury Bond futures pit at the CBOT proves that traders with a gain (loss) in mid-day trading will take more risk in their afternoon trade (Coval & Shumway, 2000).
The momentum of stock returns makes investor behavior inherent in the disposition effect in a dubious position.Investors who have benefited will be interested in selling shares.Selling pressure that initially can suppress the stock price, will result in higher yields later on.On the other hand, if shareholders face capital losses, they will only sell if there is a premium price offer.Therefore, an increased price will result in lower profits.Stock returns in the last 12 months and also on the size of the capital gains or losses faced by holders.
Variable capital gain or loss steals large amounts of explanatory power from the past (Grinblatt & Han, 2001).
Based on the literature review and related studies above, the hypotheses are concluded as follows.
H1: The LQ 45 index represent all the LQ 45 stocks observed.
When the return of the index can represents all the observation data, it means that based on the index we can predict and analyze all stocks.Besides, it also means that the investors receive all information about the stocks.
This research also analyzes whether the stocks are always profitable.If the average return of the stock is positive, it means that it is profitable.That result is also compared to the investors opinion about the statement of "the stocks are always profitable" in the questionnaire.

H2:
The LQ 45 stocks always give high return to their investors.
The LQ 45 stocks is the 45 most liquid stocks on Jakarta Stock Exchange.It means that many investors buy and sell these stocks because they think that all the LQ 45 stocks are profitable and offer high return compared to other stocks.This research analyzes whether the LQ 45 stocks always give high returns and based on traditional paradigm which states that, if the stock gives high return, it has high risk too.What about the LQ 45 stocks?Are they having high risk and high return?
Besides, this research also examines whether the opinion of the investors is similar to the statistical result based on the investor answer in the belief part of the questionnaire: "high risk -high return" and "the LQ 45 stocks are always profitable" compared to the statistical result using the normal distribution.
If the stocks are not considered as high return stocks and the investors still choose these stocks on investment, it means that the investors are influenced by other factors non empirically (such as return) but the psychological effect that cannot be predicted (such as belief, feeling, overconfidence), the factors that come from the company, and many other empirical factors.Besides, if the stocks do not follow the traditional rule "high risk -high return", when the investors said that the stocks having high return also have high risk, it means that investors still believe the traditional paradigm.The fact, the market is different from what the investors thought; sometimes investors do differently and contrary to its thinking.They act irrationally in the market.
H3: There is a relationship between belief and frequency of transactions.
If there is a relationship between belief and frequency of transactions, it means that the market is in unfavorable conditions and there physiological effect on the investors in investment decision making.
H4: There is a relationship between feeling and frequency of transactions.
If there is a relationship between feeling and frequency of transactions, it means that the market is in unfavorable conditions and there is physiological effect on the investors in investment decision making.result shows the description of all the variables: the Y variable (transaction frequency in a day) as a dependent variable, 1 X variable (feeling), and 2 X (belief) as an independent variable.The descriptive statistics table consists of means, standard deviation, and the amount of cases.Table 4 shows that the transaction frequency variable a day has mean of 19.6154, standard deviation of 3.81559 and the amount of cases ( ) N is 39, and so the other variables, belief and feeling.

Table 2 .
Independent sample t-test result between average LQ 45 stock return and average LQ 45 Index return

Table 3 .
Standard deviation for each LQ 45 stock and LQ 45 index are not in line with what they do in the market.Although they know that low risk stocks do not give them high return, they still prefer the lower risk stocks.It means that sometimes investors act irrationally.So, most of the investors tend to be risk averse than risk takers because they prefer the low risk stocks over the high risk stocks.

Table 5 .
Model summary X towards Y is 0.563.The 2 R is 0.317 that reflects the 31.7% of Y variable is influenced by the 1 X and 2 X variables.The rest (= 68.3%) is influenced by the other factor.