Understanding the left digit effect through sophisticated quantitative analysis of financial decisions

Abstract

This thesis, which is divided into three papers investigates the influence of the left digit effect on financial decision-making. The left digit effect (LDE) is a heuristic or mental shortcut and cognitive simplification process which induces an irrational preference for round numbers.
The first paper addresses the limitations of prior research which looked at the left digit effect in the metric of price alone, ignoring profit. Prior literature has suggested this irrationality has caused investors economic harm of $813 million on the New York Stock Exchange in the metrics of price alone. The findings of this paper suggest that the left digit effect is not only present in the metric of profit in the trading population, but its presence is 1.71 times more salient than in the metric of closing price. It highlights the importance of the metric of profit in decision-making while investing. The results also suggest prior research into this heuristic in the field of financial decision-making is incomplete. Furthermore, the high order of magnitude negative outcome associated with the left digit effect might be underreported.
The second paper suggests that individual trades are more likely to be closed on round digits in both metrics when the said trade is in loss. This suggests a conditional deployment of this heuristic in financial decision-making. The study also finds preference for round digits in profit and closing price causes investors to delay closing individual trades in environments of perceived time pressure. This finding is important as it contrasts with prior research which suggests the left digit effect being a heuristic induces quick decision making. It suggests there
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cannot be a uniform characterisation of the left digit effect as a heuristic. Rather it is dependent on the specific field of study. Furthermore, while analysing trading performance, this study finds that ill-disciplined traders are most prone to the left digit effect in both metrics. This finding is important as extant literature suggests ill-disciplined traders exhibit poor profitability. This is also a case with the left digit effect and financial decision-making. Therefore, the findings of this study will allow financial service providers to identify traders and trading behaviour to warn against the perils of decision-making based on this heuristic.
The third paper investigates the impact of mobile and non-mobile trading devices on the left digit effect in the metrics of profit and closing price. Typically, mobile trading devices have smaller display screens which compact display of information. This impacts a cognitive bias such as the left digit effect that is elicited by visual numerical stimuli. This paper finds the left digit effect continues to persist irrespective of electronic device in both metrics. Its manifestation is stronger in the metric of profit. It highlights the important property of persistence of the left digit effect as a heuristic in enduring technological change. This paper also finds that the use of mobile devices encourages traders to close trades on round numbers. Thus, mobile electronic device use is an important criterion which can be used by financial service providers in identifying individuals likely to be prone to this bias to mitigate its negative economic impact.
Taken together, this thesis initially identifies academic gaps in accurately documenting the left digit effect while trading. It then proceeds to rigorously recognise unique trading conditions, trading performance metrics and technological choices which increase its salience causing investors economic harm.

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Identifiers

ORCID for Ming-Chien Sung: orcid.org/0000-0002-2278-6185

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