House Money Effect: Evidence from Market Makers at Taiwan Futures Exchange

Abstract

We document empirical support for the 'house money' effect proposed by Thaler and Johnson (1990). Market makers for Taiwan' TAIEX index options tend to take above-average risks in afternoon trading after above-average morning gains. The fraction of market makers with better-than-average morning performance influences market-level liquidity and volatility in the afternoon trading. Our findings confirm that prior outcome influences subsequent risk-taking and emphasize that how investors frame previous outcomes influences their subsequent attitude toward risks.

Keywords: House money effect, market maker, derivatives, investor behavior

JEL Classification: G10 G13 G15