Q: “I follow a disciplined approach to investing. When a stock has appreciated by 15 percent, I sell it. Also, I sell a stock when its price has declined by 25 percent from my initial purchase price.”
A: The client of Statement 6 is behaving consistently with behavioral portfolio theory. The client sells and holds a stock not because of the stock’s potential, but rather from a fear of the stock declining in value and gains dissipating and an aversion to realizing losses. Loss-aversion in prospect theory is discussed from a different perspective.
Could anyone explain why the statement is consistent with BPT but not the prospect theory? I don’t really understand what the answer is trying to explain. Anyone could provide another perspective on the answer?
Currently in the same boat as you. Even after the explanation the reading gave I’m still confused as to how we’re supposed to interpret that it is BPT over prospect theory.
Based on how the reading mentions BPT as “investors reluctant to realize losses may continue to hold some securities not because of the securities’ potential, but rather because of the investor’s aversion to realize losses.”
To me the statement is saying, the investor isn’t averse to realizing losses due to his willingness to sell any stock that declines 25% from the price paid.
I remember getting stuck on this last year. I will just put this bluntly from my experience, I moved on. they are pulling at hairs here. Very low probability you will see something this obscure on the exam, in my opinion.