Capital gain overhang and risk-return trade-off: An international study

In this article, we examine the risk-return relation under the impact of investors' price reference points in international markets. We calculate capital gain overhang (CGO) to measure the psychological evaluation of past returns. Using a double-sorting methodology, we find that a negative risk-return trade-off generally exists in international markets when CGO is low; results using the Fama-MacBeth procedure confirm our findings. The CGO effect is more prominent in less developed, less transparent, and less legally protected markets. It is stronger in markets with collectivistic, higher power-distanced, and feminine cultures. The evidence also indicates that the price reference effect is more pronounced when the market is in crisis. Finally, the CGO effect on the risk-return relation reverses as the holding period becomes longer.