Buy and buy again: The impact of unique reference points on (re)purchase decisions

• Published date: 01 June 2023
• Author: Gizelle D. Willows,Daniel W. Richards
• Date: 01 June 2023
• DOI: http://doi.org/10.1111/irfi.12399

ORIGINAL ARTICLE

Buy and buy again: The impact of unique

reference points on (re)purchase decisions

Gizelle D. Willows

1

| Daniel W. Richards

2

1

College of Accounting, University of

Cape Town, Cape Town, South Africa

2

School of Administrative Studies, York

University, Toronto, Canada

Correspondence

Gizelle D. Willows, College of Accounting,

University of Cape Town, Cape Town,

South Africa.

Email: gizelle.willows@uct.ac.za

Abstract

Behavioral finance has uncovered that investor engage emo-

tionally when trading. We investigate how three psychological

factors influence purchase and repurchase decisions: repre-

sentativeness, the influence of prior gains, and reference

points. Using trading data of 7200 UK investors we find that

purchase decisions are influenced by representative heuristic

and repurchase decisions are influenced by both representa-

tive heuristic and prior profitability. Further survival analysis

showed that investors use the prior selling price as a unique

reference point. Investors are more likely to repurchase a

stock when trading above its reference point, but more likely

to initiate the repurchase when trading below. Investors are

influenced by previous experience and engage learning behav-

ior when they seek to reinforce past success. As reference

points are inferred but infrequently researched, this research

adds to the literature and provides important and robust

results for those engaging with financial planning clients.

KEYWORDS

performance, purchases, reference points, representativeness

1|INTRODUCTION

Academic research in behavioral finance has uncovered ways in which biases identified by cognitive psychology

influence investment decisions. A bias which has received a lot of focus is the disposition effect, where

Received: 29 September 2021 Revised: 2 June 2022 Accepted: 30 September 2022

DOI: 10.1111/irfi.12399

This is an open access article under the terms of the Creative Commons Attribution License, which permits use, distribution and

reproduction in any medium, provided the original work is properly cited.

© 2022 The Authors. International Review of Finance published by John Wiley & Sons Australia, Ltd on behalf of International Review

of Finance Ltd.

International Review of Finance. 2023;23:301–316. wileyonlinelibrary.com/journal/irfi 301

investors show a preference to sell stocks that have appreciated in value while holding stocks decreasing in value.

Overall, there is less research investigating the influence of purchase and repurchase decisions. Yet, prior research

has found that investors engage in more buying transactions than selling transaction (Richards & Willows, 2018) and

repurchasing of stocks is a frequent occurrence with 40% of households engaging in repurchase behavior

(Nofsinger & Varma, 2013). Repurchasing stocks is sub optimal behavior based on easy recall of information which

increases brokerage fees and decreases diversification in a portfolio over time (Nofsinger & Varma, 2013). In this

paper, we investigate buying decisions to ascertain how three psychological factors influence stock marketinvestors

when purchasing and repurchasing stocks. The three psychological factors are representativeness, the influence of

prior gains, and references points.

Representativeness refers to the tendency of investors to purchase those stocks which have been performing well

on the belief that the performance will continue. Thus, stocks with a high number of days with a positive return are more

likely to be purchased than stocks with a low number of days with a positive return. We ascertain the influence of the

representative heuristic on purchasing decisions but also on repurchasing decisions on individual investors. Behavioral

biases do not occur in isolation and there are two other factors we consider on repurchase decisions. First, does the prior

profitability influence the tendency to repurchase stocks, wheregainsaremorelikelytoberepurchasedthanlosses.Sec-

ond, do reference points (prior sales price) influence the rate at which repurchase decisions occur, where stocks below a

reference point are being repurchased more quickly than stocks above the reference point.

Using the trading data of 7200 individual investors at a United Kingdom brokerage firm from 2006 to 2009, we

investigate for the presence of the representative heuristic in both purchase and repurchase decisions. We then

ascertain if prior profitability and the influence of reference points influence repurchase decisions in addition to the

representative heuristic. Our results show that the representative heuristic occurs in purchase decisions but varies

across different types of investors. Repurchasing of stocks is influenced by both representative heuristic and prior

profitability. Reference points also have a large influence on repurchase decisions as investors will quickly repurchase

a stock if it is trading below their reference point as opposed to above their reference point. This suggests that dou-

ble reinforcement learning occurs. An investor both purchased a stock which was a sold at a gain, then sold it at a

price higher than it is currently trading. The influence of reference points also overrode the representative heuristic

when considering how quickly a repurchase decision occurred. Investors were more likely to purchase stocks with

poor past returns than positive past returns when the reference point was considered.

Overall, our research shows that investors have a variety of influences on their purchase and repurchase deci-

sions. The tendency to follow past returns and repeat purchases of prior winners shows that investors engage in pur-

chasing behavior which extrapolates prior experience with future success. Reference points also have a large

influence on the tendency to repurchase stocks where stocks are valued below a reference point. Yet, reference

points are inferred but infrequently researched by behavioral finance academics. Future research could determine

how investors form reference points and how these guide subsequent investment behavior. Finally, our research

suggests that investors engage learning behavior where they seek to reinforce past success. They repurchase stocks

which were previous gains and rebuy stocks when they timed the market correctly.

2|LITERATURE REVIEW

2.1 |Representativeness heuristic

The representative heuristic refers to the human tendency to base judgments on similarity or stereotypes. Much like

the availability heuristic, people evaluate the occurrence of an uncertain future event by the degree to which is

resembles a recent observed phenomenon (Tversky & Kahneman, 1973). This helps explain why people often extrap-

olate recent performance into the future. In investment decision making, the representativeness heuristic is dis-

played by investors who purchase stocks which have appreciated in value over the past. This could be based on an

302 WILLOWS AND RICHARDS