Foreigners at the gate? Foreign investor trading and the disposition effect of domestic individual investors

Abstract

Using the account-level data of a major Korean securities firm between 1999 and 2005, we examine whether the strength of domestic individual traders’ disposition effect is affected by the inflow of foreign investors. Our sample period, beginning just after the liberalization that lifted the cap on foreign investor ownership, allows for an interesting insight into how domestic individuals perceive foreign investors’ entry into an emerging stock market. We find that individual investors are more likely to realize paper gains on stocks with large recent foreign investor purchase, which appears to be behaviorally motivated. These individual investors are also less likely to trade stocks with large foreign ownership in the first place, further hinting at their aversion. Our main results are robust to a difference-in-difference analysis based on the inclusion of a stock into the MSCI Korea index.