Why Would Overconfidence Generate Lower Performance? Insights from an Experimental Study

Overconfidence is recognized as one of the most important behavioral biases in decision-making. Using results from a controlled lab experiment we find that participants who display more confidence perform worse than other participants, whereas participants who say they are confident do not perform worse. We also find evidence that more confident traders also have lower visual attention levels (using an eye-tracking software), lower visual working memory (measured using an “n-back 1” test), and higher physiological arousal (using electro-dermal activity). Although conducted using a small sample of novice traders, our findings represent a first step in explaining how overconfidence and performance are related in financial markets.