Does Cognitive Limitation Affect Investor Behavior and Performance? Evidence from Limit Order Clustering

We investigate the effect of cognitive limitation on investment behavior and investor performance. We hypothesize that the cognitive limitation of investors could be manifested by disproportional large amount of limit orders submitted at round numbers if they use these numbers as cognitive shortcut to save energy from extensive algorithmic processing. Analyzing over 200 million detailed records of trades and quotes in Taiwan Futures Exchange, we document a strong and persistent pattern of limit order clustering at round number prices. The most frequent limit order prices are multiples of a hundred, followed by multiples of fifty, and then multiples of ten. The limit order clustering phenomenon is more pronounced among individual investors. Moreover, using the proportion of orders submitted at round number prices as a proxy for the level of an investor’s cognitive limitation, we find that individual investors that are cognitively more constrained suffer from greater losses in their investments. Finally, we find that past trading experience, proxied by number of limit orders submitted