By Adnan Balloch, Anamaria Nicolae and Dennis Philip, Durham University Business School
Why do some households invest in stocks and shares while others do not? There are several possible theories explaining the non-participation puzzle, and the existing literature on the subject has identified a number of potential influencing factors – including levels of optimism, the IQ of the investors (or non-investors), their political leanings and level of education.
Some of the most significant features associated with stock market participation are: levels of sociability of the investors (in other words, the extent to which they exchange information); stock market literacy (that is, an understanding of how the market works); and levels of trust in the stock market. Recent research suggests that households with a lower level of market literacy are less likely to be investors in stocks and shares. At the same time, households with a higher level of trust are more likely to participate in share ownership. However, the degree of importance of each factor and the mechanism through which these factors influence stock ownership decisions remain unclear.
Understanding the influencing factors of stock market participation
Immeasurable factors (such as future expectations, self-confidence, sense of commitment and time preference) and their influence on stock ownership decisions are difficult to evaluate, but, amalgamating consumer information from a large number of US household surveys, the Durham University Business School team have been able to identify and quantify several determining factors of economic behaviour. The dataset has allowed the researchers to look in detail at the influence of key psychological and behavioural factors on stock market activity.
The researchers have constructed a theoretical framework whereby market literacy reduces a household’s cost barriers, thereby encouraging participation in stocks and shares. Further, it is argued that sociability operates as a proxy for market literacy through easy (and cheap) information sharing, and what matters is market literacy (learning) rather than merely being sociable.
Key influences on stock market participation
The results showed that stock market literacy was the dominant variable in investment, even when compared with the many other influencing factors. Although sociability was important, it was less so after accounting for market literacy; households with high levels of market literacy were more likely to invest even when sociability was low, and levels of participation were lower in households with high sociability but low market literacy.
The influence of trust also proved to be significant, with the results showing that the higher the levels of trust, the greater the likelihood of investment. Even here, however, the influence of market literacy proved key, with the more market-literate households investing a higher proportion of wealth in stocks and shares.
Whilst psychological and behavioural factors such as past economic shocks and future expectations explain a household’s decision to invest in stocks, conditional on participation, a larger set of factors (past economic shocks, future expectations, self-confidence and time preference) explain a household’s decision as to how much to invest in stocks.
The study’s conclusions, while not aimed at providing a causal link, are nevertheless informative in terms of policy. By identifying the key factors influencing stock market participation, they provide direction for those keen to increase it — most notably, that the focus of future action should be on increasing market literacy and trust.