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CHAPTER II REVIEW OF RELATED LITERATURE
AND HYPOTHESIS DEVELOPMENT
This second chapter focuses on the related literature, in particular: stock preference, investors’
characteristics, demographic features, and big-five personality model. After the literature review, the
hypotheses are developed.
A. Stocks Preferences
Stocks represent investors’ capital ownership in certain companies. Stocks preferences refer to the
investors’ decision to choose or purchase certain stocks. Stocks themselves have different
characteristics. In making decision, investors pay attention to these characteristics to decide whether or
not preferring and buying the stocks. Swensen in Stråhle 2011 found that the most important choice
an investor has to face is whether to invest in value or growth stocks.
Previously, Fama and French 1998 divide the stocks into two categories, growth and value stocks.
Value stocks are stocks that the market has underpriced and has potential for an increase when
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the market corrects the price. While growth stocks are the stocks that are growing with the potential for
continued growth. Since both contrary stocks have different characteristics, the previous study try to
elaborate them into detail characteristics based on some measurements such as price earnings ratio,
cash flow ratio, market to book value and price earnings growth Stråhle, 2011. The detail
characteristics of value and growth stocks are measured by some criteria as follows:
i. The PE ratio, or price in relation to the
company’s earnings, gives an indication of how low or high the price of the stock is in relation to
the earnings. Fama and French 1998, Athanassakos 2009, Chan and Lakonishok
2004 and Stråhle 2011 agree that low PE ratio indicates that the price is very modest compared
to its earnings capability. Conversely, a high PE ratio indicates that the price is very high
compared to its earnings capability. A low ratio then means that the stock is cheap or
underpriced and a high ratio means that the stock is dear or overpriced. Therefore, a stock
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with a low PE ratio is considered to be in the value category.
ii. The PC ratio, or price in relation to the
company’s cash flow, gives an indication of how low or high the price of the stock is in relation to
the cash flow available. Athanassakos 2009, Chan and Lakonishok 2004 and Stråhle 2011
conclude that a low PC ratio points out that the price was very low compared to the amount of
cash flow that the company generates. Therefore, a stock with a low PC ratio is considered to be in
the value category. iii.
MTBV stands for Market To Book Value gives an indication of the price market value in relation to
its book value the total value available in the balance sheet. Athanassakos 2009, Chan and
Lakonishok 2004 and Stråhle 2011 explain that a high ratio indicates that the market price is
much higher than the book value. Conversely, a low ratio means that the stock is trading close to
or even below the book value of the company. This means that a company with a low ratio is
considered to be a value stock since there is a possibility that the company is underpriced.
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iv. The PEG ratio stands for Price Earnings Growth,
Athanassakos 2009 and Stråhle 2011 elaborate that low PEG indicates that the stock is neglected
by the market and therefore it is underpriced. The explanation above could be summarized
into a brief table as follows:
Table 2.1 The Characteristics of Growth Stocks and Value Stocks
The Characteristics Value Stock
Growth Stocks
Low price to earnings ratio High price to earnings ratio
Low price to cash flow ratio High price to cash flow ratio
Low Market to book value ratio
High Market to book value ratio
Low price earnings growth ratio
High price earnings growth ratio
Source: Athanassakos 2009, Chan and Lakonishok 2004 and Stråhle 2011
B. Investors’ Characteristics Based on the Stock Preference
