The paper "Investment Approach for Positive and Negative Skewness" is a great example of a finance and accounting coursework. It is well established that when individuals are considering prospects for investments, they prefer opportunities that are more positively skewed. Prior research has shown that investors have a preference for positively skewed stocks than negatively or less positively skewed stocks. The basic intuition in investors is that any increase in Skewness leads to a decrease in the chances of low or negative returns (Eichner & Wagener, 2015). As a result, investors apply a higher valuation to such stocks.
The investors are willing to pay a premium due to the opportunity of gaining a higher return. This paper looks at the literature supporting the position that investors have a preference for stocks which are positively skewed compared to those that are negatively skewed. Further, the paper looks at the investment approach that an institutional investor would take when investing on behalf of a client who does not have the preference for positively skewed stocks or investments. Investors Preference for Positive Skewness Skewness is considered as the third moment of returns.
It refers to the measurement of the extent to which return distribution of stocks is asymmetric. This is done through a comparison of a normal distribution that has zero skewness (Omed & Song, 2014). Skewness can either be positive or negative. Positive skewness refers to a situation where the distribution has a longer right tail showing probability for extremely high gains. Negative skewness, on the other hand, refers to a distribution that has a longer left tail, meaning that there is a probability of high losses. Research has shown that investors have a preference for investments that have positive skewness.
As a result of this preference, investors tend to overinvest in the securities or assets that are highly skewed (Lazos et al. , 2016). According to Kumar (2009), there is a potential role of gambling in investment decisions. The overemphasis on stocks that have positive skewness by investors is likened to the gambling experience where gamblers take large chances of a small loss of a small opportunity for a large gain.
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Lazos, A., Coakley, J. & Liu, X. (2016). Investor heterogeneity, sentiment and skewness preference in the options market. Essex Business School, University of Essex.
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