International Journal of Multidisciplinary Research and Explorer (IJMRE) October-2021

Effect of Psychological Factor on the Individual Investor’s Risk

Tolerance at Listed Service and Manufacturing Companies in
Tanzania
Mwajuma Mkupaya1*, James Daniel Chindengwike2, Alex Reuben Kira3
1
Research Scientist, Department of Accounting and Finance, University of Dodoma, Dodoma, Tanzania
2
Research Fellow, Department of Accounting and Finance, University of Dodoma, Dodoma, Tanzania
3
Lecturer, Department of Accounting and Finance, University of Dodoma, Dodoma, Tanzania
1* [email protected]
[email protected]
[email protected]

However, for individual investors, risk tolerance differs from

Abstract— one of the important factors in financial and one person to another and from one country to another, and
investment decision is risk. The main objective of this study is to further, between the developed and developing countries
examine the effect of psychological factor on the individual [17].Several studies conducted in developed countries
investor’s risk tolerance at financial and manufacturing focused on demographic and psychological factors.
companies in Tanzania. The study was use Co-operative Rural According to [12] conducted study in Parkistan basing on
Development Bank (CRDB) and Tanzania Cigarette Company
gender, education, income and number of dependents. The
(TCC) as study area of the research. The study used a sample of
80 respondents from the selected companies. In addition, the
results obtained from his study reveals that male, high income
study used secondary data which were obtained from different earners and middle level of education individuals to be more
literatures such as reports, published and unpublished papers risk tolerant. Furthermore study done by [3] from India using
and other related documents. Descriptive statistics, factor over confidence, mental accounting, gender, marital status
analysis, and linear regression were used to check both and income variables came out with the results showing that
association and influence of psychological factors on individual individuals who are female, unmarried and overconfident are
investors’ risk tolerance. The findings show that overconfidence, more risk takers. However, further studies conducted in India
loss aversion and mental accounting were positive and by [9] taking into consideration number of dependants, age,
significantly related to the risk tolerance of individual investors.
education level, gender, mental accounting and
This study recommends that stakeholders should take into
consideration key factors such as gender and income, loss
overconfidence reveals that individuals with few number of
aversion, mental accounting and overconfidence in investing in dependants, young stars and overconfident do take more risk
companies. The study further recommends that, the hence invest more than individuals with older age and little
Government and Regulatory Authority should make use of the confidence. In addition, [16] attempted a study in Turkey
findings obtained from this study when formulating and focus on mental accounting, loss aversion overconfidence as
implementing various policies related to investment decision. variables affect risk tolerance and came out with the results
that individuals who are overconfident are the ones who can
Keywords— Psychological Factor, Individual Investor’s, Risk, tolerate risk and invest in large investments.
Risk Tolerance, Service Companies, Manufacturing Companies,
Tanzania
In developing countries decisions made by local and foreign
I. INTRODUCTION investors are affected and influenced by the investment
associated risks. As such, investors need to tolerate risk when
One of the important factors in financial and investment running investments in emerging economies [5]. Little studies
decision is risk [2]. Before making decisions on investment, have been conducted in developing countries [6]-[9]
individual investors first do consider what they will earn as concerning factors affecting investors risk tolerance in
well as the risk associated with investment [19]. Risk is the investment. The studies used demographic and psychological
variability in future returns having two components, namely factors variables to determine the factors affecting investors
uncertainty and exposure [15]. Uncertainty occurs when there risk tolerance in investment. The study conducted by [7] in
is a condition of not knowing if something is true or false or if Kenya focused on loss aversion, over confidence, gender,
one is aware or unaware of it [10]. Exposure is the condition experience and education noted that female investors,
which is based on three factors namely what could happen, experienced and those with higher academic qualifications are
how likely is that scenario to take place and what would the more risk tolerant than men, less experienced and low
consequence be if a certain event occurs [13]. Risk tolerance academic qualification individuals. Further the study
is defined as organizations’ or stakeholders’ readiness to bear conducted in Nigeria by [14] concentrated on gender,
the risk after risk treatment in order to achieve its objectives education, number of dependants, mental accounting, loss
[4]. It is an important factor for both investors and investment aversion and overconfidence and the results reveals that few
managers before making any investment decisions [1].
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International Journal of Multidisciplinary Research and Explorer (IJMRE) October-2021

dependants, high level of education and overconfidence high income earners are more risk tolerant than lower income
influence more risk tolerance in investment than individuals earners [9]. However, there are research data not supporting
with many dependants, low confidence and low education these beliefs. Therefore, more research is needed to test this
qualifications. Observations have shown that there is lack of assumed relationship. The empirical evidence to determine
consistence in determining which variables do exactly factors influencing risk tolerance of an individual investor
influence investors risk tolerance.The empirical literatures especially in listed companies is inadequate. Moreover, to the
reviewed have revealed how various factors influencing best of my knowledge and understanding, none of the studies
investors risk tolerance in various countries of the world [4, 7, in determine factors influencing individual risk tolerance in
10, 14, 17, 19]. Many studies conducted by researchers have Tanzania listed companies are available in the international
been done in developed countries and little conducted in economic literatures. Most studies related to determinants of
developing countries and Tanzania has not been one of them. individual risk tolerance come from European countries,
Therefore, this study aims at filling the gap taking CRDB and Australia, the United States and other African countries.
TCC companies listed in Dar es Salaam stock exchange by Therefore, more empirical studies are needed to accurately
adopting geographical and psychological variables that were identifying psychological factor on the individual investor’s
used in various researches so as to discover the situation in risk tolerance especially in listed companies.
Tanzania.

Due to little studies conducted in Africa [7-9] and very little II. LITERATURE REVIEW
evidence on available study done in Tanzania on factors According to [18] conduct a study in India to examine the
affecting investor’s risk tolerance. Therefore, this study empirical analysis of financial risk tolerance and
fulfills this gap by adopting various variables from other psychological features of individual investor of 300
studies to assess the factors affecting investors’ risk tolerance respondents working at two Universities of Kerala and
in Tanzania Listed Companies by using CRDB and the TCC Mahtama Ghandi University in 2010. Using six independent
as the case study. These variables will be grouped into two variables (anchoring, overconfidence, representatives, mental
factor namely demographic factor (gender, income, education accounting, cognitive bias and loss aversion) and one
level, education, age, marital status and number of dependant variable (financial risk tolerance) it is found that
dependents) and psychological factor (overconfidence, loss the psychological bias or factors that play a significant role in
aversion and mental accounting). Risk tolerance is an determining financial risk tolerance are loss aversion, mental
imperative concept that has an implication for both providers accounting, overconfidence while representative and
and consumers of financial services. The ability of risk anchoring was not influencing financial risk tolerance.
tolerance is a major factor for any job related to investment. According [1] conducted a study in India on exploring into
Risk tolerance of individual investors depends on many the role of psychological biases in financial investment
factors such as gender, age, education, income, marital status, decisions by individuals and their financial risk tolerance
number of dependents and work other factors include where psychological biases (overconfidence, loss aversion
overconfidence, loss aversion and mental accounting. These and mental accounting) were termed to be the major. The
factors have been grouped into two categories such as study examined the relationship between psychological
demographic factors and psychological factors. There have variables and personality traits on investors’ attitude towards
been many types of researches investigating this problem and risk. The author ascertained that there is a positive
presented many different results about factors affecting the relationship between loss aversion, mental accounting and
risk tolerance of individual investor. Several studies risk tolerance level while overconfidence had a negative
conducted in developed and developing countries revealed association with risk tolerance.
that investors’ risk tolerance has close linkage with
individuals’ psychology and attributes which directs common
III. RESEARCH METHODOLOGY
financial and investments practices [7, 13, 19]. Other studies
conducted in developed countries explained that different This study adopted explanatory research design which
levels of risk tolerance such as high and low risk tolerance of provides the explanation of the effect and causes correlation
an individual investor can be grouped according to various between study variables. The study was conducted in CRDB
factors such as demographic, psychological and economic [2, and TCC public companies with shares listed on the Dar es
5, 9, 11, 17]. Salaam Stock Exchange. The companies were chosen as the
representative of service and manufacturing industries
Furthermore, Studies indicated that men are less risk because they are characterized with number of individual
tolerance than women but the background of education shows investors compared to other companies. The study population
that heterogeneous results on risk tolerance [6, 9] presents no was formed from individual investor who current invested in
impact on risk tolerance. Thus, the results of research on the CRDB and TCC who constituted individual investors. This
factor of Education affecting the risk tolerance of individual study used random sampling technique to select investors of
investors are not consistent. In addition, other studies CRDB and TCC for data collection. The study used a sample
indicated that individuals employed in professional of 80 Investors from the selected companies. In addition, the
occupations are more risk tolerant than those employed in study used secondary data which were obtained from different
non-professional occupations [3] self-employed individuals literatures such as reports, published and unpublished papers
are more risk tolerant than those employed by others [14] and and other related documents. Descriptive statistics, factor
analysis, and linear regression were used to check both
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International Journal of Multidisciplinary Research and Explorer (IJMRE) October-2021

association and influence of psychological factors on and limitations on model or in the population. This study
individual investors’ risk tolerance. The study will ensure data carried out multicollinearity test using the Variance Inflation
validity by pilot study in each phase also the researchers will Factor (VIF) method. The VIF estimates how much the
ensure data reliability by conducting Cronbach's Alpha test variance of a regression coefficient is inflated due to
when is greater than 0.7 is more acceptable. According to this multicollinearity in the model. The VIF was calculated by
study the Cronbach's Alpha is 0.835 for 13 items. In this study taking an independent variable and regressing it against every
the researcher ensured ethical consideration by informed independent variable in the model. This gave R-squared
consent of the participants by observing their voluntary values which were plugged into the VIF formula.
participation also researcher maintained anonymity (no
mentioning of names by using codes or numbers). Before
Data analysis the following parametric tests was done to
ensure data validity and data reliability as following results.

Where Ri2 is the R-squared value from regressed independent

A. Preliminary Test (Diagnostic Checking) variables. The rule of thumb states that there is evidence of
In the construction of statistical models, model validity is collinearity if the mean VIF is greater than unity or if the
critically imperative to ensure unbiased and valid statistical largest VIF is greater than 10 [6]. From Table.2 the results
indicated that, there is no multicollinearity since the average
inferences. Therefore many model diagnostic tests have VIF is 3.85 which is below 10 mean VIF.
been formulated for checking and detecting model
misspecification. The study undertakes normality tests, Table 2: VIF Test of Multicollinearity
heteroscedasticity and multicollinearity. Variable VIF 1/VIF
2.Gender 1.17 0.854181
B. Normality Test
Age
Most of the parametric tests such as T-test and regression are
holding the presumption of typical dissemination. 2 1.3 0.76648
Subsequently, analyze the typical appropriation of the model 3 1.94 0.514861
must not be overlooked. While ordinariness presumption
Education
expects that unsettling influences or mistake terms of the
model are regularly appropriated. Since mistake terms are the 2 10.07 0.099334
factors that have been overlooked, the effect of the precluded 3 11.77 0.084985
factors must be little and, best case scenario, arbitrary. On the 4 6.73 0.148651
off chance that this suspicion doesn't hold, this prompts
mistaken outcomes and draw deluding translations. There are Dependents
two different ways to check ordinariness normally the 2 2.48 0.402729
realistic strategy utilizing diagrams to imagine the dispersion 3 3.8 0.263297
and normality test. Normality, test is sensitive enough at a
low sample size or very sensitive to large sample size. This 2.Marital 1.33 0.749217
study used Jarque-bera test for testing normality, the test 2.Employment 1.16 0.859083
rejects the hypothesis of normality when the p-value is less Income level
than or equal to 0.05. From Table 1 indicated that, the data
2 2.78 0.359228
are normally distributed since the p-value (0.0678) for the
Jarque-Bera (test for normality assumption) is greater than 3 1.62 0.617524
0.05, hence there is no sufficient evidence to reject the null Mean VIF 3.85
hypothesis at 0.05 significance level. Source: Study Findings (2020)

Table 1: Jarque-Bera (Test for Normality Assumption) A. Heteroscedasticity

When the variance of error term differs with each observation
Variab Pr(Skew Pr(Kur adj Prob>c in such case heteroscedasticity is said to exist. A unequal
le Obs ness) tosis) chi2(2) hi2 variance may violate the assumption of classical linear
G 80 0.0567 0.0348 0.648 0.0678 regression model and cause the model to be inefficient. These
Source: Study Findings (2020) can be caused when data collection method improved,
presence of outlier observation and according to human
behavior. This study used Cameron and Triyedi’s
A. Multicollinearity decomposition of IM test to check for heteroscedasticity.
Multicollinearity happens when at least two free factors are
Also, the test provides the result on normality of data.
profoundly related, consequently can't precisely mirror their
individual commitments towards the needy variable (Pesaran,
2015). Multicollinearity is brought about by information Table 3: Heteroscedasticity-Cameron & Trivedi's
assortment strategy, over-characterized model, model detail Decomposition of IM-test

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International Journal of Multidisciplinary Research and Explorer (IJMRE) October-2021

circumstance displayed by speculators as a rule terms is that

Source chi2 Df P are in control of losing positions, they procure a more
grounded want to reestablish their position simply even to an
Heteroscedasticity 68.58 51 0.0507
earn back the original investment status. Then again, similar
Skewness 15.07 12 0.2378 financial specialists would have a danger lenient conduct or
be danger looking for when confronting a misfortune and in
Kurtosis 1.8 1 0.18 this manner they could wish to hang on the speculations with
the expectation that costs ascend once more. From the Table 4
Total 85.45 64 0.0379 indicated that, loss aversion influenced individual investor
Source: Study Findings (2020) risk tolerance with regression coefficient of 0.284 implying
that, as loss aversion score increased by 1 score then
The result from Table 3 shows that the model do not suffer individual investor risk tolerance by 0.284 score. These
with the problem of heteroscedasticity since the p-value findings are supported by Ahmed et al. (2013) who pointed
(0.0507) for heteroscedasticity is greater than 0.05 and also it out that, loss aversion and representative are significant
show that the model do not suffer with the problem of non- influencing the risk decision of investor compared tax rates
normality assumption since the p-value is greater than 0.05. which had weak correlation to risk tolerance level. According
to [2] found that the psychological bias or factors that play a
V. RESULTS AND DISCUSSIONS significant role in determining financial risk tolerance are loss
aversion and overconfidence while representative and mental
PSYCHOLOGICAL FACTOR ON THE INDIVIDUAL INVESTOR’S accounting (heuristics) was not influencing financial risk
RISK TOLERANCE AT CRDB AND TCC tolerance.
Multiple regressions analysis employed to determine Mental Accounting; Investor have propensity of building
influence of over confidence, loss on individual investor risk mental edges regarding their ventures. This inclination is
tolerance at CRDB and TCC in the study area. Result in the known as mental bookkeeping and it depicts conduct in which
table 4.17 below indicates that independent variable included financial specialists place specific choice into mental records
in the model was good predictors of individual investor risk that are gotten from their own shallow attribute. Result from
tolerance. About 93.2% of variations of individual investor Table 4. showed that, mental accounting was insignificant at
risk tolerance explained by the variations in the independent P< 0.05 and with coefficient of 0.06249 implying that as the
variable included in the model. Results further indicated that confidence increased by 1 score the risk tolerance would
explanatory variable included in the model had a significant increase by 0.0624 score. The result re consistent to [3]
influence on the individual investor risk tolerance (F = supported ascertained that there is a negative relationship
346.19, P < 0.001). between mental accounting, overconfidence and risk
tolerance.
Overconfidence; The overconfidence bias identifies with the
conviction that financial specialists hold to the way that they According to [7] revealed that mental accounting was more
can practice mineral control in their choice than they can truly pervasive in individual financial specialists than institutional
do. Careless financial specialists put more reliance on their speculators. The propensity of financial specialists to make
prescient expertise in distinguishing and picking winning mental edge is fuelled by speculation condition where
ventures. From Table 4 below it is indicated that, over speculators feel more torment when they are acclimated with
confidence was significant at P< 0.05 and with coefficient of a misfortune and apparently they determine more joy when
0.679 implying that as the confidence increased by 1 score the accomplish an increase from a particular investment.
risk tolerance would increase by 0.679 score. Similarly, [18]
found that overconfidence and anchoring play essential role in
determining the financial risk tolerance and financial risk
behaviour such variables fluctuate while mental accounting
had weak influence on financial risk tolerance. According to
[4] point out as a result of overconfidence, investors tend to
overestimate their ability to develop market forecast and force
them to enter into either risk investment or less risk
investment. These findings comply with [7] found that men
exhibit more overconfident characteristics, such as excessive
trading and higher risk taking than women. This study had a
big proportion of respondents being financially literate and
this could explain the high risk taking behaviour leading to
over trading due to overconfidence.

Loss Aversion; Loss aversion makes hesitance in individuals

to settle on choices for change for the simple actuality that
they extraordinarily center around what they are probably Table 4: Multiple Regressions for Psychological Factors
going to lose than they may wind up picking up. The

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International Journal of Multidisciplinary Research and Explorer (IJMRE) October-2021

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