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Examining investors’ sentiments, Examining

investors’
behavioral biases and investment sentiments

decisions during COVID-19 in the

emerging stock market: a case of 549
Pakistan stock market Received 31 August 2020
Revised 15 February 2021
14 June 2021
Shagufta Parveen Accepted 6 July 2021
Management Sciences, COMSATS University Islamabad, Attock Campus,
Attock, Pakistan
Zoya Wajid Satti
Management Sciences Attock Campus,
COMSATS University Islamabad, Attock Campus, Attock, Pakistan, and
Qazi Abdul Subhan, Nishat Riaz, Samreen Fahim Baber and
Taqadus Bashir
Department of Management Sciences, Bahria University, Islamabad Campus,
Islamabad, Pakistan

Abstract
Purpose – This study investigates the impact of the COVID-19 pandemic on investors’ sentiments, behavioral
biases and investment decisions in the Pakistan Stock Exchange (PSX).
Design/methodology/approach – The authors have assessed investors’ behaviors and sentiments and the
stock market overreaction during COVID-19 using a questionnaire and collected data from 401 investors
trading in the PSX.
Findings – Results of structural equation modeling revealed that the COVID-19 pandemic affected investors’
behaviors, investment decisions and trade volume. It created feelings of fear and uncertainty among market
participants. Evidence suggests that behavioral heuristics and biases, including representative heuristic,
anchoring heuristic, overconfidence bias and disposition effect, negatively influenced investors’ decisions at
the PSX.
Research limitations/implications – This study will contribute to behavioral finance literature in the
context of developing countries as it has revealed the impact of COVID-19 on the emerging stock market, and its
results are generalizable to other emerging stock markets.
Practical implications – The findings of this study will help academicians, researchers and
policymakers of developing countries. Academicians can formulate new behavioral models that can
depict the solutions of dealing with an uncertain situation like COVID-19. Policymakers like the Securities
Exchange Commission and the PSX can formulate crisis management strategies based on behavioral
finance concepts to cope with situations like COVID-19 in the future and help lessen investors’ losses in the
stock markets. The role of the Securities Exchange Commission is crucial as it regulates the financial
markets. It can arrange workshops to educate investors to manage their decisions during crisis time and
focus on the best use of irrational and rational decision-making at the same time using Lo (2004) adaptive
market hypothesis.
Originality/value – The novelty of the paper is that the authors have introduced overconfidence and
disposition effect as mediators that create a connection between representative and anchoring heuristics and
investment decisions using primary data collected from investors (institutional and retail) to demonstrate the
presence of psychological biases during COVID-19, and it has been done for the first time according to authors’
knowledge. It is a contribution and addition to the behavioral finance literature in the context of developing
Journal of Economic and
countries’ stock markets and their efficiency. Administrative Sciences
Vol. 39 No. 3, 2023
Keywords Market overreaction, Behavioral heuristic, Overconfidence bias, Mediation, Disposition effect, pp. 549-570
Investment decisions © Emerald Publishing Limited
1026-4116
Paper type Research paper DOI 10.1108/JEAS-08-2020-0153
JEAS Introduction
39,3 The current COVID-19 pandemic has hit the whole world, took everyone by surprise and still
causing massive economic activity disturbances in the stock markets. Excessive
fluctuations in prices and stock indexes are not completely explained by traditional
finance (Aslam et al., 2020). Traditional finance focuses on rational behavior and efficient
markets, whereas the current COVID-19 pandemic has shown market participants’ irrational
behavior and inefficiency in stock markets globally (Bansal, 2020). This pandemic has
550 created a situation of uncertainty and fear. Such irrational behaviors, under uncertain
situations, are well explained by the field of behavioral finance, which states that people do
not always follow logic and make decisions systematically (Statman et al., 2006). Humans are
unpredictable, and so do their behaviors even in the same situations at some different points
in time (Tversky and Kahneman, 1974). People have displayed such irrational behavior,
which was observable in their decision-making during COVID-19 (Bansal, 2020).
The current paper has investigated the impact of COVID-19 on investors’ sentiments,
behavioral biases and investors’ decision-making, focusing on behavioral heuristics and
biases, including representative heuristic, anchoring heuristic, overconfidence bias and the
disposition effect. These biases are the results of investors’ sentiments. All these heuristics and
biases are linked together and work simultaneously in a human mind to reach a decision and to
impact the actions of an investor (Wagnar, 2020). The field of behavioral finance only explains
this behavior and the actions of investors. The actions and sentiments of investors shaped the
situation of the stock markets and influenced the trade volume. Investors overreact and
underreact during stock market trading (Rahman et al., 2021). Traditional finance has failed to
explain the uncertainty and volatility created by this unpredictable global crisis as this crisis
has influenced investors’ psychology and behaviors during this pandemic (Vasileiou, 2020).
COVID-19 has shown its impact on the world economies and Pakistan in different stages.
Stock markets worldwide were extremely unpredictable and volatile from February 2020 till
March 2020, which increased the risk for investors up to 26.6% (Ahmed, 2020). The stock
market of Pakistan was also affected by this pandemic from January 2020 till June 2020. It went
through different phases of reactions and fluxes after receiving news and announcements on
COVID-19, government policies on lockdown, budget, relief packages, oil prices, lower inflation
rates and news from the World Health Organization (Riaz et al., 2020). The investors
faced mixed results on their investments from January 2020 to March 2020 in Pakistan.
Lockdown in the country also worsens the prevailing situation for them (Shehzad, 2020).
Negative news worldwide about the stock market’s performance has also influenced
investors’ confidence and sentiments in Pakistan. The stock exchange dropped by 10% as
$610 million had flown out of Pakistan in March’s last weeks. However, it showed some
recovery after announcing a relief package of Rs.1.2 trillion (US$6.46 billion) and a decrease in
Prime Minister Imran Khan (Aslam et al., 2020; Haris, 2020). PSX faced losses and run in a
bearish trend during March, and trade was halted for 45 min. The index dropped below
35,000 points, and PSX struggled to recover as the COVID-19 pandemic continued to affect
international stock markets and economies (Ahmed, 2020). Investors were uncertain about
Pakistan’s economic condition after receiving Moody’s report, which estimated the increase
in Pakistan’s fiscal deficit and contraction in growth from 0.1 to 0.5% (Jabbar, 2020). Some
positivity and the bullish trend were observed in April because of volatile global oil prices and
an estimated lower inflation rate in the domestic market. The index witnessed a 3.98%
increase since last month despite the economy’s current bad situation during the pandemic
(Waheed et al., 2020). There was not much trade in the month of Ramadan, which started after
April 20. It also led to low trade volume at PSX. Later, positive news on the coronavirus
vaccine’s progress reported by Gilead and Oxford University helped lift investment in global
stock markets and PSX. The announcements of the International Monetary Fund’s (IMF)
Rapid Financing Instrument worth $1.4 billion, the Asian Development Bank (ADB) aid of
$1.7 billion to Pakistan for dealing with COVID-19, and stability in the value of Rupee also Examining
boosted the confidence of investors and increased trading activity at PSX (Khurshid, 2020). investors’
The month of May was still better for investors despite increasing COVID-19 cases
domestically. The index closed at 34,008 points with a 2.2% rise in the last few weeks.
sentiments
Investors were happy on easing of lockdown by the government as business activities were
resumed. The prediction about a substantial cut in interest rates also generated bullish
sentiments and increased market activity in highly leveraged stocks (Shehzad et al., 2021).
The approval of Rs. 50 billion agricultural packages boosted investment in agricultural 551
companies’ shares. Later, investors’ focus shifted toward the cement and steel sector stocks
after the government announced speeding up work on the Diamer-Bhasha dam construction
(Khaliq et al., 2020; Weekly Review, 2020). This bullish trend does not last long after the
federal budget announcement for the financial year 2020–2021. The sentiments of pessimism
prevailed at the stock exchange after the federal budget announcement. The fear of investors
on budget announcement led to sell-off at the bourse (Weekly Review, 21st June 2020). The
situation from February 2020 until June 2020 demonstrated instability and fluctuations in
PSX trade volume and changes in investors’ sentiments (Riaz et al., 2020). Figure 1 illustrates
the Pakistan Stock Exchange (PSX) situation from January 2020 till June 2020.
It indicated the tendency of Pakistani investors affected by current news, past information
and announcements. Pakistani investors live in a collective culture and are influenced by
their family and friends’ suggestions and recommendations and display “herd behavior”
(Bashir et al., 2013). They are not financially literate and do not know how to manage their
portfolios, so they got advice from market experts or people already trading in the stock
exchange. They do not understand how their psychology, sentiments and behaviors can
affect their investment performance and returns. This “herd behavior” and their mixed
reaction was observable during COVID-19 (Ilyas et al., 2020).
Psychological biases and heuristics affect investors’ sentiments and market trade volume.
The present study has selected psychological factors, including representative heuristics,
anchoring heuristic, overconfidence bias and disposition effect, and has analyzed their
collective impact on investors’ investment decisions during COVID-19. The literature on
behavioral finance has revealed that these four variables are theoretically linked (Kahneman
et al., 1982; Odean, 1998; Statman et al., 2006; Waweru et al., 2008; Prosad et al., 2017). Few
research studies have tested overconfidence bias as a mediator between behavioral heuristics
and investment decisions, including Park et al. (2010), Haixia (2018), Anson and Kallaraka
(2019) and Parveen et al. (2020). Raza and Mohsin (2014) have introduced the disposition effect
as a mediator between the managers’ behavioral biases and decision-making. The finding of
these studies illustrated that all these variables are interlinked and worked simultaneously

Karachi Stock Exchange KSE 100 Index

42000
40000
38000
36000
34000
32000
30000
28000
Figure 1.
May Jul Sep Nov 2020 Mar May PSX’s performance
during COVID-19
Source(s): TRADINGECONOMICS.COM
JEAS and affect investment decisions together, and they must be examined in this manner. These
39,3 heuristics and biases are explained by dual-process theory and prospect theory, which
indicate intuitive systems during decision-making (Parveen et al., 2020).
Research studies are currently done or in progress in developed countries on the impact of
COVID-19 on the stock markets, which cannot be generalized to developing countries like
Pakistan. The reasons are different cultures, values, financial market structure, low financial
literacy, education rate, income and poverty level (Prosad et al., 2017). The purpose of the
552 current study is to find and examine how COVID-19 has influenced the sentiments,
behavioral biases and investment decisions of investors trading at PSX. So the present study
has tried to fill this gap by exploring the impact of COVID-19 on investors’ sentiments,
behavioral biases and investors’ investment decisions in developing countries. It will
contribute to behavioral finance literature regarding the impact of COVID-19 on stock
markets of developing and emerging economies.
The present study’s contribution is to analyze investors’ sentiments, biases and investment
decisions during COVID-19 in developing countries like Pakistan using mediation analysis.
According to the best of the authors’ knowledge, it is the novelty of the current study as there
is no such study found on the Pakistani stock market during COVID-19. The present study’s
contribution is in the prospect and dual-process theory, which are the base of both heuristics,
overconfidence bias and disposition effect in developing countries and the impact of these two
theories on investors’ actions and decision-making in the stock markets during COVID-19.
The present study’s findings will help explain the efficiency of the Pakistani stock market and
investors’ behavior (rational or irrational) in developing countries in uncertain situations like
COVID-19. The first section of this paper has discussed the impact of COVID-19 on Pakistan
and the rationale for conducting this study. The next section is about a literature review, which
has shed light on previous studies about the impact of COVID-19 on stock markets worldwide.
After this, the present study’s methodology has been discussed, and data analysis is then
shared along with a conclusion and future research.

Literature review
Behavioral biases and heuristics influenced the decision-making of investors in the stock
markets and they are connected and work simultaneously in a human mind to reach a
decision. Representative heuristic, anchoring heuristics, overconfidence bias and disposition
effect follow dual-process theory and prospect theory. According to which heuristics follow
the logical and emotional side of a human mind and go through different available
alternatives to conclude. Prospect theory covers the disposition effect which shows the
tendency of investors to sell the shares to avoid the feeling of loss. The psychology of
investors did play a vital role in shaping the decisions of investors during this pandemic. The
current study has discussed the literature on behavioral heuristics, biases, overconfidence,
disposition effect and impact on investment decisions.

Behavioral heuristics, biases and investment decisions

The COVID-19 pandemic has negatively impacted all the sectors of the world’s economies,
especially the stock markets, and influenced investors’ sentiments, which caused stock
price volatility and resulted in stock market crashes. This excessive instability of financial
markets can better be explained using behavioral finance concepts (Bansal, 2020).
Behavioral biases and heuristics have been observed during the COVID-19 crisis, including
representative heuristic, anchoring heuristic and risk perception. The representative
heuristic is explained as an overreliance on recent information. Investors give weightage to
the recent information available in stock exchanges. These new statistics can be related to
announcements of dividends, earnings, new policy, mergers and changes in the
management (Kahneman and Tversky, 1972). Anchoring heuristic focuses on the first Examining
information (anchor) and gives it too much weight in making decisions. People start making investors’
estimates on the anchor and make adjustments in it according to the arrival of new
information as gathered and received (Tversky and Kahneman, 1974). It influences the way
sentiments
people estimate and guess the chances of an event. “It occurs when an individual depends
too much on a specific piece of information and makes his decisions based on that specific
information” (Comlekci and Ozer, 2018). Such information is used as the anchor (reference
point). This reference point is then used to reach the final decision (Cost et al., 2017). These 553
psychological biases and heuristics are used for decision-making under uncertainty by
investors to reduce the risk of loss (Prosad et al., 2017). These heuristics and biases lead to
decision-making errors, as all possible alternatives are not considered before making any
decision. Investors can make wrong decisions under the influence of these psychological
biases and heuristics, which leads to market inefficiency and impact their investment
decisions. Behavioral finance states that investment decisions can be irrational due to
asymmetric information (Statman et al., 2006).
Kumar (2020) studied the presence of behavioral heuristics and biases in investors’
decision-making during COVID-19. He found that heuristics like representative, anchoring
and availability were present and overconfidence bias, disposition effect, confirmation bias
and risk aversion (Riaz et al., 2020). Another study was conducted by Riaz et al. (2020) on the
determinants of investment decisions during COVID-19. They found psychological factors
including behavioral heuristics (representative and anchoring), loss aversion, family and
friends’ opinions, herd behavior and companies’ market information. Kwatra (2020)
examined the role of behavioral biases in the stock market. He also found several behavioral
heuristics and biases influenced investors’ returns as these psychological biases affected
the decision-making during this pandemic. These heuristics and biases include
representative, anchoring, availability, confirmation bias, loss aversion and optimism.
Putri et al. (2020) examined the cognitive biases in the financial decisions of investors
during COVID-19. They found the existence of representation bias, risk-aversion, herding
behavior and availability bias. These are the main factors that are deriving investors’
decisions in the stock markets of the world.
From the above literature, it is evident that investors are impacted by behavioral
heuristics during COVID-19. It has impacted investors’ tendency to focus on past
performance, past news, previous days’ death reports, World Health Organization, social
media discussion and market experts’ opinions on trading in the stock market. The results
were not according to the expectations, and stock markets were crashed globally, indicating
the “herd behavior” of the stock market participants. The investors displayed representative
and anchoring heuristics during COVID-19 to decide investment (Gaurav, 2020). So H1 and
H2 of the current study are:
H1. Behavioral heuristics negatively affect the investment decisions of investors in the
stock market of Pakistan during COVID-19.
H2. Behavioral heuristics negatively affect the overconfidence bias of the investors in the
stock market of Pakistan during COVID-19.

Overconfidence, disposition effect and investment decisions

Overconfidence can be explained as one’s ability to overestimate his knowledge and skills to
predict the future and make decisions. Overconfident investors overvalue the information
they have and think of themselves better than average people (Odean, 1999). They
underestimate the knowledge of others and try to get more information by themselves to
make decisions. COVID-19 pandemic exposed this overconfident behavior of financial
JEAS markets’ decision-makers and future prediction of market experts. Investors followed them
39,3 and did not receive the desired returns. The bad news about one stock market led investors
into fear and uncertainty, and they started selling shares. The disposition effect is the
investors’ tendency to sell shares rising in prices and hold stocks with decreasing prices
(Statman et al., 2006). Investors during the COVID-19 pandemic sell shares before their prices
fall based on the information they received from any channel.
Bansal (2020) conducted a study on behavioral heuristics and biases in investors’ decision-
554 making during COVID-19. He found the presence of overconfidence bias and disposition
effect strongly influenced investors’ decisions during this pandemic. Investors relied on their
private information, and they were willing to sell the stocks immediately to earn profit and
avoid losses. Goossens and Knoef (2020) examined the impact of disposition effect and other
biases on investment decisions during COVID-19. They found a strong disposition effect in
the stock market trading due to investors’ impatient attitude. They also found volatility in
trade volume during this pandemic. Waiyasara and Padungsawasdi (2020) studied investors’
behavior in Thailand’s stock exchange during COVID-19 using the disposition effect. They
found the existence of disposition effect in the decision-making of investors. They were
affected by losses more than gains on investment. Sohail et al. (2020) conducted a study on the
impact of COVID-19 on investors’ behavior using interviews. They found that investors were
influenced by psychological factors like disposition effect and overconfidence. They were
also affected by government policies during COVID-19, broker’s advice, political instability
among provinces, and family members’ opinions. Huber et al. (2020) found that fear and
uncertainty leads to disposition effect and causes changes in broker’s and investors’ behavior
during COVID-19. They also found the presence of disposition effect and risk aversion in the
decisions of investors. Overconfidence bias and disposition effect were present
simultaneously in the decision-making of investors due to uncertainty in the financial
markets. Overconfident investors sold the stocks based on the information they had and the
forecasts they made. So, for the current study H3, H4 and H5 are as follows:
H3. Overconfidence bias positively affects the disposition effect of the investors in the
stock market of Pakistan during COVID-19.
H4. Overconfidence bias negatively affects the investment decisions of investors in the
stock market of Pakistan during COVID-19.
H5. Disposition effect negatively affects the investment decisions of investors in the
stock market of Pakistan during COVID-19.

Role of mediation
Investors’ behavior was influenced by the governments’ decisions relating to monetary policies,
international travel restrictions and the number of lockdown days. These factors created
uncertainty among investors, and they were using mental shortcuts and their private information
for selling the stocks. They were looking at the international stock market results as reference
points and were making their decisions accordingly. Overconfidence bias and disposition effect is
a result of representative and anchoring heuristics (Kahneman and Tversky, 1979).
Ramelli and Wagner (2020) found the negative result of COVID-19 on US stock markets.
The investors demonstrated behavioral biases and heuristics during this pandemic as they
were relying on the news and announcements from different sources, past days’ information
and extensive media coverage of COVID-19. They based their decisions on current news and
announcements they received (representative and anchoring heuristics). They compared the
COVID-19 pandemic with Spanish influenza of the year 1905, the global financial crisis of
2008 and the stock market crash of the 1930s and made predictions on the past information
confidently. They demonstrated representative and anchoring heuristics and overconfident
bias in such comparisons. A study was conducted by Zeren and Hizarci (2020) on the impact Examining
of COVID-19 on the financial markets of different countries, including China, France, investors’
Germany, Italy, South Korea and Spain. They found that these countries’ stock markets were
negatively influenced, and investors faced enormous losses. Unpredictability in stock prices
sentiments
and indexes illustrated investors’ sentiments during this pandemic who sell off shares to
avoid feelings of loss in the future (disposition effect). They also demonstrated the “herd
behavior” following the market trends. These stock markets did not act according to the
concepts of market efficiency and efficient market hypothesis. Investors were going through 555
different emotions and feelings of an uncertain future. They were following the trading
activity of their fellow market participants. An event study was conducted by Khanthavit
(2020) on the reaction of the stock market during COVID-19 found that investors reacted to
old news for decision making. A study conducted by Ru et al. (2020) found that stock markets
of those countries that were previously affected by the virus SARS-CoV-1 in 2003 were poorly
impacted than those counties that were experiencing the COVID-19 virus for the first time.
It shows representative heuristic, anchoring heuristic and overconfidence in investors’
decision-making where they used past information as reference points to make their
decisions. They sold the shares when prices started to rise and hold the loser ones, displaying
the disposition effect. They used mental shortcuts to make decisions under uncertain
situations, and these mental shortcuts are called heuristics (Kahneman and Tversky, 1972).
So behavioral heuristics and biases exist in the decisions of investors simultaneously during
COVID-19. So H6 and H7 of the current study are:
H6. Overconfidence bias and disposition effect partially mediate the relationship
between behavioral heuristics and investment decisions in the stock market of
Pakistan during COVID-19.
H7. Overconfidence bias and disposition effect sequentially mediate the relationship
between behavioral heuristics and investment decisions in the stock market of
Pakistan during COVID-19.

Theory of behavioral heuristics and biases

Prospect theory and dual-process theory are base on behavioral heuristics and cognitive
biases. These theories illustrate the irrational behavior of investors in the financial markets.
Prospect theory states that investors are more affected by losses than gains (Kahneman and
Tversky, 1979). Prospect theory contributes towards explaining the disposition effect as
Shefrin and Statman (1985) stated that “prospect theory predicts a disposition to sell winners
and ride losers.” This theory states that humans use two parallel decision-making systems
(Bago and Neys, 2017). The first system is called an intuitive system that is mostly
unconscious and effortless. The second system is a slower, logical and effortful system. It is
called a reasoning system. These systems are called by most researchers system 1 and
system 2 (Arnott and Gao, 2019). Both systems work simultaneously and are not separate.
Lo (2004) gave the idea of the “adaptive market hypothesis,” which states that market
efficiency and inefficient coexist consistently. Financial markets switch between efficiency
and inefficiency depending upon the market conditions like bubbles, crashes and financial
crises. This indicates the presence of logical and intuitive systems working parallel in human
decision-making. The intuitive system generates guesses and perceptions accepted, rejected
or rectified by reasoning systems (Fan and Chatterjee, 2018).
From the previous discussion of the literature, it can be seen that representative heuristic,
anchoring heuristic, overconfidence bias and disposition effect are theoretically and
empirically connected and influenced investment decisions of investors in stock markets
COVID-19 pandemic. Representative heuristic and anchoring heuristic impact
JEAS overconfidence bias, which influences the disposition effect, and the disposition effect affects
39,3 investors’ decisions. Keeping this in view, we have proposed the following sequential
mediation model (see Figure 2):

Methodology
The present study theorizes that behavioral heuristics are related to investment decisions
556 first through overconfidence bias and disposition effect. This model is evaluated employing a
cross-sectional survey and bootstrapping method using partial least square structural
equation modeling (PLS-SEM) to assess mediation effects.
We have used a structured questionnaire for the collection of data from 401 investors
trading at PSX. This questionnaire is adopted from various research studies (Mouna and
Jarboui, 2015; Lin, 2011; Rasheed et al., 2016; Khan et al., 2017; Prosad et al., 2015; Waweru
et al., 2008). There are two sections in this questionnaire; the first section is related to
respondents’ demographic information, and the second section consists of behavioral
heuristics, overconfidence bias, disposition effect and investment decisions of investors. The
questionnaire consisted of 39 items (all close-ended questions) that were asked from the
respondents. Respondents answered all the questions on a “six-point Likert scale,” which
ranged from scale 1 (Strongly Disagree) to scale 6 (Strongly Agree). According to
Kengartharan and Kengartharan (2014), a “six-point Likert scale” is generally used to identify
and understand the respondents’ opinions and behaviors. The detail of each variable and its
items are discussed in the subsequent sections.

Representative heuristic
The representative heuristic is explained as an overreliance on recent information. Investors
give weightage to the recent information available in stock exchanges. These new statistics
can be related to announcements of dividends, earnings, new policy, mergers and
management changes. “Investors think that new information is overly representative of
stock’s prospects” (Barber et al., 2000). The existence of this heuristic in investors’ decision-
making, trading in the stock market, is measured by a total of six items. These questions are
based on extrapolation bias, base rate neglect and the conjunction fallacy. These questions
are adopted from Rasheed et al. (2016).

Anchoring heuristic
“It occurs when an individual depends too much on a specific piece of information and makes
his decisions based on that specific information” (Comlekci and Ozer, 2018). Such information is
used as the anchor (reference point). This reference point is then used to reach the final decision
(Cost et al., 2017). A total of eight items are used to measure anchoring heuristic in investors’

H4
Overconfidence Disposition
effect

H2 H6

H3 H7
Figure 2. H5
Sequential mediation Representative
between behavioral Behavioral Investment
heuristics and Heuristics H1
decisions
investment decisions Anchoring
investment decisions in the PSX. These questions are situation-based and revolve around Examining
different reference points used as anchors. These questions are adopted from Khan et al. (2017). investors’
sentiments
Overconfidence bias
“Overconfidence is the tendency for people to overestimate their knowledge, abilities, and
precision of their information” (Bhandari and Deaves, 2006). Overconfident investors think of
themselves as “I am the best” and they give credit to themselves whenever they earn positive 557
returns from any investment decision. They display “self-attribution bias” by doing this.
It is assessed by a total of eight items to determine the existence of overconfidence bias in
investors’ decision-making in the PSX. These questions revolve around dimensions of
overconfidence, which include overestimation, over-placement and over precision. These
dimensions were identified and proposed by Barber and Odean (2000) and Odean (1999). Out
of the total eight items, the first four are adopted from Mouna and Jarboui (2015), and the next
four were adopted from Lin (2011).

Disposition effect
The disposition effect is defined as “the tendency to sell winners too early and ride losers too
long” (Shefrin and Statman, 1985). Investors do this “to avoid the feelings of regret.” They also
demonstrate “self-control” by holding onto loser stocks. A total of ten items are used to
measure the disposition effect in investors’ investment decisions in the PSX. These questions
are based on prospect theory, mental accounting, regret aversion and self-control. These
items are adopted from Prosad et al. (2015) and Waweru et al. (2008).

Investment decisions
“Investment is defined as the purchase of an asset and selling it at a higher price in the future
to generate income from it. Investment decisions involve a cash outlay to receive the return
and future cash flows” (Fabozzi, 2015). A total of seven items adopted from Khan et al. (2017)
are used to measure investors’ investment decisions, and these questions are situation-based
and are related to decision-making on fundamental analysis, high historical values, past
prices, past returns and high trade volume.

Regression equation
We have used Montoya and Hayes’ (2017) approach to calculate sequential mediation for the
current study:
(1) Total indirect effect of X on Y.
(2) Indirect effect 1: X → M1 → Y.
(3) Indirect effect 2: X → M1 → M2 → Y.
(4) Indirect effect 3: X → M2 → Y.
When we want the effect of X on M1:
M1 ¼ b0 þ b1 X þ μ
When we want the effect of X on M2:
M2 ¼ b0 þ b2 M1 þ b5 X þ μ
JEAS When we want the effect of M on Y:
39,3 Y ¼ b0 þ b4 X þ b3 M2 þ b6 M1 þ μ

For this study, the equation one can be explained as:

Y 5 Investment Decisions.

558 b 5 Intercept.
X 5 Refers to behavioral heuristics.
M1 5 Mediator (overconfidence bias).
M2 5 Mediator (disposition effect).
b1X 5 Intercept of behavioral heuristics.
b2M1 5 Intercept of overconfidence bias.
b3M2 5 Intercept of the disposition effect.
μ 5 Residual term.

Sample size and data collection

The target population for primary data collection consisted of all investors trading in the
PSX, including brokers who invest for themselves and their clients. Total questionnaires
were 600 in numbers that were distributed among investors (institutional and retail). The
purpose of the distribution of 600 questionnaires was to attain maximum responses to
enhance the present study’s generalizability. The participants were informed about the
study’s purpose, and they were assured about the confidentiality of the collected data. This
purpose was communicated through a cover letter attached to questionnaires in hard and soft
form. These questionnaires were distributed both in hard form and mostly electronically (due
to COVID-19) through different sources such as brokers and personal links. Out of 600
questionnaires, 481 were returned, and 401 questionnaires from 481 were fully answered or
completed in all aspects and used for analysis. So, the response rate of the present study is
80.2%. According to Anderson et al. (2017), reliable results can be achieved using data
collected from 100 respondents. The sample size depends on factors such as time availability,
financial resources and researcher abilities.
For calculation and analysis purposes, PLS-SEM is used to examine the sequential
mediation, a three-path model analysis of association among the study variables. The
overconfidence bias and disposition effect are used as multiple mediators among behavioral
heuristics and investment decisions. We have analyzed data in two steps as guided by PLS-
SEM guidelines. First, we have calculated the measurement model to determine inter-item
reliability, convergent reliability and internal consistency. In the second step, we have
examined the present study’s structural model to assess the significance of hypothesis and
mediation using the bootstrapping method (Ramayah et al., 2017).

Data analysis
We have followed Montoya and Hayes’ (2017) procedure to examine the sequential mediation
between investors’ sentiments, behavioral biases and investors’ investment decisions during
COVID-19. Investors’ sentiments and biases are evaluated by measuring representative and
anchoring heuristic, overconfidence bias and the disposition effect. According to this
procedure, three criteria should be met; first, independent variables should correlate with the
intervening variable; second, the correlation between the mediator and dependent variable Examining
should be significant after controlling the impact of the independent variable; third, the investors’
specific indirect effect should be significant through the mediator. SPSS 21 and SmartPLS 3.0
is used for data analysis. SPSS 21 is used to code the responses and computation of variables.
sentiments
SmartPLS 3.0 is used to calculate the mediation between variables, and it can calculate the
sequential mediations among variables. SmartPLS 3.0 is based on PLS-SEM (Hair et al., 2014;
Umrani et al., 2020). First, we have calculated the measurement model (reliability and
validity), and then we have computed the structural model (bootstrapping and mediations) 559
for the present study.
Measurement model. First, factor loadings were used to assess the inter-item reliability
while viewing the cut-off value of 0.70 (Munir, 2018). The current study’s factor loadings
demonstrate higher values than 0.70, explaining the instrument’s consistency and items in
the present study. It ensures the generalizability of the current study’s findings, and
researchers can confidently use this scale for future research studies. The calculation of the
average variance extracted (AVE) describes convergent validity. AVE is used to establish the
amount of change and variance that a latent variable can expound. According to Ramayah
et al. (2017), AVE values equal to 0.5 or higher leads to attaining convergent validity. AVE’s
values for the present study are higher than the threshold value of 0.50, establishing the
instrument’s convergent validity. The internal consistency reliability is assessed through the
computation of composite reliability (CR), and its values should be above the threshold value
of 0.70 (Hair et al., 2014). The values of composite reliability for the current study are above
0.70. Table 1 illustrates the measurement model computations for the current study.
The heterotrait-monotrait (HTMT) ratio method is used to determine the discriminant
validity of the present study. Fornell-Larcker criterion is also used to ascertain discriminant
validity, but due to recent criticism on this, the current study has used the HTMT ratio
method. Critics say that Fornell and Larcker’s criterion does not accurately measure
discriminant validity (Muhammad, 2020). HTMT ratio is a relatively new method for finding
out discriminant validity in structural equation modeling. The interpretation of the HTMT
table is simple, which is based on the cut-off value for HTMT. According to Henseler et al.
(2015), the cut-off values of HTMT are 0.85 and 0.90, respectively. If the HTMT table’s derived
values are less than the cut-off values of HTMT, then discriminant validity is established.
Higher values than these thresholds demonstrate the lack of discriminant validity. Table 2
illustrates all less than the cut-off values of 0.85 and 0.90 and establishes the present study’s
discriminant validity.
Structural model. After fulfilling the measurement model’s requirements, the structural
model is examined to determine the hypothesis’s significance. It includes calculation of effect
size, model fit, total effects and specific indirect effects to determine the importance of
sequential mediation. First of all, the effect size is evaluated to determine each variable’s
significance in influencing investment decisions. F-squared is computed to illustrate the
effect size of each variable on investment decisions during COVID-19.
F-squared (effect size). It was introduced by Cohen (1988) to assess each predictor
variable’s strength in explaining and determining the response variable. The effect size
suggests one variable’s effect on another variable and shows the rejection of the null
hypothesis. It helps researchers to find out about the variables that influence more to the
response variable. There is a link between effect size, p-value and sample size when
hypotheses are examined. The effect size provides a more significant estimation than
conventional statistical significance methods. Each regressor’s effect on the response
variable can be observed by removing independent variables one after the other from the
model (Gignac and Szodorai, 2016). It will also reveal an impact on R2 of the research study. F-
squared exhibits the significance of each predictor variable in the model according to their
effect size value.
JEAS Factor Items Loadings Alpha CR AVE
39,3
Rep_heu Repre 1 0.90 0.881 0.873 0.671
Repre 2 0.96
Repre 3 0.87
Repre 5 0.82
Repre 6 0.86
560 Anch_heu Anchr 1 0.85 0.852 0.891 0.714
Anchr 2 0.79
Anchr 3 0.84
Anchr 4 0.80
Anchr 5 0.76
Anchr 6 0.70
Anchr 7 0.81
Anchr 8 0.80
Overcast Over 1 0.83 0.926 0.901 0.723
Over 2 0.97
Over 3 0.90
Over 4 0.94
Over 5 0.96
Over 6 0.93
Over 7 0.87
Over 8 0.95
Disp_eff Dispa 1 0.85 0.954 0.932 0.747
Dispa 2 0.80
Dispa 3 0.84
Dispa 4 0.83
Dispa 5 0.81
Dispa 6 0.87
Dispa 7 0.79
Dispa 8 0.93
Dispa 9 0.97
Dispa 10 0.92
Invst_dec Invst 1 0.72 0.912 0.945 0.652
Invst 2 0.71
Invst 3 0.78
Invst 4 0.74
Invst 5 0.70
Invst 6 0.77
Invst 7 0.83
Table 1. Note(s): *Representative heuristic; **Anchoring heuristic ***Overconfidence bias; ****Disposition effect;
Measurement model *****Investment decisions

Anch_heu Rep_heu Overcast Disp_eff Invst_dec

Anchr_heu
Rep_heu 0.237
Overcast 0.399 0.306
Table 2. Disp_eff 0.383 0.355 0.290
HTMT-ratio Invst_dec 0.191 0.235 0.257 0.325

There are three values of F-squared to measure the strength of the relationship among
variables. These values indicate the “small,” “moderate,” and “large” effect of predictor
variables on the response variable. The small effect has a threshold value of ≤0.02, the Examining
moderate effect has a cut-off value of ≤0.15, and the large effect has a cut-off value of ≤0.35. If investors’
the effect size values are less than 0.02, then the influence of each predictor variable on the
response variable is low and trivial even if it has a significant p-value. This can happen when
sentiments
the sample size is large (Hair et al., 2014). Table 3 shows that representative and anchoring
heuristics, overconfidence bias and disposition effect have a moderate impact on investors’
investment decisions in PSX during the COVID-19 pandemic.
Model fit. Model fitness is examined to find out about the goodness of the model proposed. 561
The current study has used partial least square structural equation modeling to determine
model fitness for hypothesis testing. The measures of model fit include Standardized Root
Mean Square Residual (SRMR) and Normed Fit Indexed (NFI), which are based on the value of
Chi-square (χ 2)” that must be significant at 5% level of significance. Ramayah et al. (2017)
stated that the value of SRMR should be less than 0.08 as acceptance criteria, and a perfect
model fit can be attained if SRMR value is “0”. The value NFI must be higher than 0.90 to
meet the acceptance criteria, and good model fitness can be achieved when NFI is close to “1”.
R-squared (R2) value indicates how much predictor variables have a considerable effect on the
criterion variable. For the present study, representative heuristics, anchoring heuristic,
overconfidence bias and disposition effect contributed 82.4% toward the decisions taken by
the investors trading in the PSX during COVID-19. The values of SRMR and NFI are also
according to acceptance criteria. Our model is statistically fit and sound, and it meets the
quality criteria of a good model. Table 4 shows the values of model fit.
After calculating the effect size and model fit, path coefficients are analyzed using the PLS
algorithm and bootstrapping method (Sarstedt and Cheah, 2019). Sequential mediation
analysis (three-path model) is also part of the structural model assessment.

Sequential mediation analysis

The path coefficient explains the strength of one variable’s effect on another variable and
shows a direct impact. It is essential to look at each path’s significance using bootstrapping
after finding the strength of the impact in structural model calculation. Direct, specific
indirect effects and three path model is calculated using PLS algorithm, mediation and
sequential mediation analysis. The following equation is used to get direct and specific
indirect effects in mediation analysis:

Independent variables Invst_dec

Rep_heu 0.042
Anch_heu 0.051
Overcast 0.077 Table 3.
Disp_eff 0.096 Effect size

Model fit measures Model values

SRMR 0.005
Chi-square 38.632
NFI 0.991 Table 4.
R2 0.824 Model fit
JEAS
39,3 Total effect ¼ direct effect þ indirect effect

The direct effect is indicated by “c,” and the indirect effect is shown by “ab.” The total effect is
represented by “
c” in this equation (see Figure 3).
ab ¼ c  c0
562
For the present study, model 1:
Behavioral heuristics → Investment decisions ¼ c

We can calculate model 2a by (see Figure 4):

Behavioral heuristics → overconfidence bias → Investment decisions ¼ a1 b1

After this, model 2b is calculated using (see Figure 5):

Behavioral heuristics → disposition effect → Investment decisions ¼ a2 b2

Finally, sequential mediation is calculated by (see Figure 6):

Behavioral heuristics → overconfidence bias → disposition effect → Investment decisions
¼ a2 *d21 *b2

The present study’s path analysis is performed by partial least square using structural
equation modeling, and its results are achieved in two steps and are displayed in Table 5.
The first step involves running the “PLS algorithm” to discover and ascertain the path
coefficients. In the second step, “bootstrapping” is run to observe each path’s significance in

X Y
Representative
C Investment
Behavioral
Figure 3. decisions
Heuristics
Model 1 with the total
effect Anchoring

M1

Overconfidence

a1 b1

X Y
Representative
Figure 4. ć
Behavioral Investment
Model 2a with decisions
Heuristics
intervening
variable (M1) Anchoring
 Representative
X Y Examining
ć investors’
Investment
Behavioral
Heuristics decisions sentiments
Anchoring

a2 563
b2

Disposition Figure 5.
effect Model 2b with
intervening
variable (M2)
M2

M1 M2
d21
Overconfidence Disposition
effect

a1 b2
a2 b1
Representative

Behavioral ć Investment Figure 6.

Heuristics
decisions
Model 3 with specific
Anchoring indirect effect
X Y

Hypothesis β SE t-value p-value Decision

*Beh_heu → Invst_dec (H1) 0.380 0.131 2.901 0.000 Supported

*Beh_heu → Ovrcnf (H2) 0.418 0.101 4.139 0.002 Supported
*Ovrcnf → Disp_eff (H3) 0.491 0.113 4.345 0.000 Supported
*Ovrcnf → Invst_dec (H4) 0.307 0.093 3.301 0.000 Supported
*Disp_eff → Invst_dec (H5) 0.584 0.129 4.527 0.001 Supported
**Beh_heu → Ovrcnf → Invst_dec (H6a) 0.471 0.145 3.241 0.000 Supported
**Beh_heu → Disp_eff → Invst_dec (H6b) 0.484 0.120 4.033 0.000 Supported Table 5.
***Beh_heu → Ovrcnf → Disp_eff → Invst_dec (H7) 0.462 0.116 3.982 0.001 Supported Direct and specific
Note(s): *Direct effect 5 c; **Mediation analysis 5 ab; ***Sequential mediation analysis 5 a1*d21*b2 indirect path analysis

the present study model. The values of path coefficients are standardized because these are
assumed from correlation. Path analysis helps researchers evaluate the part and contribution
of one or more paths towards the model’s complete fit. To explore the significant role of
sequential mediation between representative heuristic, anchoring heuristic, overconfidence
bias, disposition effect and investment decisions, different approximations and calculations
were attained: direct paths, specific indirect effect, sequential mediation analysis, their
t-values and significance through bootstrapping for the current study. The results of two
steps structural model and three paths sequential mediation are displayed in Table 5.
JEAS The current study’s findings indicate higher t-values than its threshold value of 1.96 at a
39,3 5% significance level. The effect size of both heuristics on investment decisions is large, as its
value is greater than 0.35. These heuristics bring about a 38% negative variation in
investment decisions when there was an announcement from government or local and
international sources about COVID-19. The effect size of both heuristics on overconfidence
bias is larger, i.e. >0.35. Any prediction regarding COVID-19 and its impact on the economy
and industry changed overconfident investors’ behavior by 41.8% and led them to use past
564 prices and old information as reference points. They use mental shortcuts to decide about
trading during this pandemic. The effect size of overconfidence bias on investment decisions
is moderate as it is greater than 0.15 but less than 0.35. Overconfidence bias brings a 30.7%
variation in investment decisions, which shows investors’ tendency to have confidence in
their information and knowledge to make decisions in the stock market. The effect size of
overconfidence bias on the disposition is large and is 49.1%, which shows the definite link
between both variables. Overconfident investors have shown the tendency to sell the shares
after getting information about COVID-19 progress. The effect size of the disposition effect on
investment decisions is large as it is higher than 0.35. It causes a 58.4% adverse change in the
decisions related to investment. It demonstrates the loss the investor faced during this
pandemic due to the uncertain situation. t-values for all these direct relationships are higher
than the cut-off value of 1.96 and indicate the statistical significance of the associations
among behavioral heuristics, biases and investment decisions.
The present study results revealed the statistically significant mediations (specific
indirect effect) and sequential mediation (three path model) for the present study. The
overconfidence partially mediates between heuristics and investment decisions, and its effect
size is larger than 0.35, and it is negative 47.1%. It can be observed that the effect size of the
direct link between news, announcements and investment decisions is negative 38%. When
overconfidence bias intervenes between behavioral heuristics and investment decisions, it
makes their relationship weak, takes the value up to negative 47.1%, and causes losses on
investments for the investors. It shows the reliance of overconfident investors on news and
announcements and uses them as reference points to make PSX decisions during COVID-19.
The disposition effect as a mediator is also negative and statistically significant at a p-value
less than 5% during the COVID-19 pandemic. The effect size is 48.4%, which is large and
indicates investors’ behavior in the stock market. The direct effect size of both heuristics on
investment decisions is 38%, and when the disposition effect intervenes, it worsens the
situation for investors in PSX as it takes value up to 48.4%. Investors focused on mental
accounting and self-control in their investment decisions and sold stocks to avoid huge losses.
The results of sequential mediation again demonstrate the negative impact on investment
decisions for investors in COVID-19 days. The path of sequential mediation shows a46.2%
change in investment decisions for investors at PSX. Investors have used mental shortcuts,
overestimation, over placement, over-precision, extrapolation bias, base rate neglect and
conjunction fallacy in their decision-making in trading during COVID-19. They were unsure
about the future, so they focused on selling the shares they held and earned losses on their
overall investment. Everyone was focusing on selling the stocks they were holding. The news
and announcements of lockdown, COVID-19 cases, the death rate per day, World Health
Organization, progress on the COVID-19 vaccine, budget announcements and volatility in
global stock markets badly affected investors’ decision-making PSX. Investors used these
announcements and news as reference points (anchors) to make decisions. They were also
affected by comparing the COVID-19 and global financial crisis of 2008 made by analysts.
Keeping this comparison in mind, investors thought that the stock market might crash soon,
so they started to sell the stocks they had and even accept fewer returns to avoid substantial
future losses (as predicted by them). They displayed irrational behavior and decision-making.
Investors also displayed “herd” behavior during this COVID-19 and followed what other
market participants were doing locally and internationally. This created a situation of fear Examining
and panic among the stock market traders and caused volatility in the trade volume resulting investors’
in a drop in index points.
This COVID-19 situation proved investors’ irrational behavior in the market and the
sentiments
influence of sentiments and biases on them, and Figure 7 illustrates the sequential mediation
among behavioral heuristics and investment decisions.
All hypotheses have been accepted and statistically proved in the case of primary data
analysis about the impact of COVID-19 on PSX. It showed that investors were affected by an 565
intuitive system more and less than a logical system, as stated by dual-process theory.
Previous studies support the direct link between behavioral heuristics, overconfidence bias,
disposition effect and investment decisions (Ramelli and Wagner, 2020; Rahim et al., 2020;
Zhang et al., 2020; Prosad et al., 2017; Aravind and Manojkrishnan, 2020; Statman et al., 2006;
Odean 1998, 1999; Barber and Odean, 2001; Ru et al., 2020; Khanthavit, 2020). The studies
conducted by Iqbal et al. (2015), Haixia (2018), Metawa et al. (2018), Raza and Mohsin (2014)
and Parveen et al. (2020) found that overconfidence bias and disposition effect partially
mediates between behavioral heuristics and investment decisions. In light of these studies,
the H7 for the present study is accepted. It shows the role of sequential mediation between
behavioral heuristics and investment decisions of investors at PSX during COVID-19.
According to Riaz et al. (2020) and Rahim et al. (2020), overconfidence bias and disposition
effect have significantly impacted investors in Pakistan during COVID-19. Bansal (2020) also
examined behavioral heuristics and biases in investors’ decision-making during this
pandemic. He et al. (2020), Rigual (2020) and Zaremba et al. (2020) revealed the existence of
representative, anchoring heuristic, overconfidence bias and disposition effect in investors’
decisions during COVID-19. The present study’s findings demonstrated that the Pakistani
stock market had been affected by behavioral heuristics and psychological biases during the
COVID-19 pandemic. The reasons behind this are low financial literacy, collective culture,
values and developing market infrastructure. Pakistani investors are not risk-taker and try to
avoid risk. This was observed during COVID-19 as they sell the shares to prevent huge losses
in the coming days. So, it can be determined that behavioral biases and heuristics influence
investors’ decisions-making in the PSX crisis like the COVID-19 pandemic.

[+] [+]
4.345

Overconfidence bias 4.033 Disposition effect

3.241

4.527
4.139

3.892

[+] [+]
2.901 Figure 7.
Sequential mediation
structural model
Behavioral Heuristics Investment decisions
JEAS Conclusion and implications
39,3 The present study’s findings have revealed the presence of behavioral heuristics and biases
and their impact on the decisions of investors of Pakistan during COVID-19. These
psychological biases negatively impacted Pakistani investors. The presence of dual-process
theory and prospect theory is also found in the Pakistani stock market during this pandemic.
Investors relied on the intuitive system and a logical system. This study will contribute to
behavioral finance literature in developing countries as it has revealed the impact of COVID-
566 19 on the emerging stock market like Pakistan. Its results are generalizable to other emerging
stock markets such as India, Indonesia, Korea and Malaysia. Emerging markets have the
same financial market structure, liquidity, risk level, culture, investors’ values, income level,
developing stage policies and regulations. The impact of any uncertain situation is almost the
same on investors in these countries so that the present study results can be generalized to
other emerging markets and their investors.
The findings of this study will help academicians, researchers and policymakers of
developing countries. Academicians can formulate new behavioral models that can depict the
solutions of dealing with an uncertain situation like COVID-19. Policymakers like the Securities
Exchange Commission and the PSX can formulate crisis management strategies based on
behavioral finance concepts to cope with situations like COVID-19 in the future and help lessen
investors’ losses in the stock markets. The role of the Securities Exchange Commission is
crucial as it regulates the financial markets. It can arrange workshops to educate investors to
manage their decisions during crisis time and focus on the best use of irrational and rational
decision-making at the same time using Lo (2004) adaptive market hypothesis. The limitation of
the current study is that it does not cover all the behavioral biases and heuristics and market
anomalies. It is also conducted in a single country. For future research, market anomalies,
gender, income and financial literacy can be considered mediators in finding out about the
impact of COVID-19 on investors’ sentiment. The same model can compare other developing
markets to find similarities and differences in research studies’ findings.

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Appendix:
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Corresponding author
Shagufta Parveen can be contacted at: shaguftaparveen99@gmail.com

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