Lifetime Experience of Volatility: A New Determinant of Household Demand for Stocks.

I use data from the Survey of Consumer Finances from 1964 to 2010 to show that American household heads that experienced higher stock market volatility during their lifetimes are less likely to participate in the stock market, and invest a lower fraction of their liquid assets in stocks when they do participate. Among the market portfolio experience variables, experienced volatility is the best predictor of the share of liquid assets invested in stocks by stock market participants. My evidence suggests that experienced volatility influences investors’ portfolio choices by way of their beliefs, rather than preferences. I also construct a time series of average experienced volatility in the investor population and show that it is strongly and negatively correlated with the valuation of the aggregate stock market and that it positively forecasts annual excess returns. Overall, the evidence suggests that households’ volatility experiences have a significant effect on portfolio choice and on stock market prices.