In the current crisis, some blame has been put on households who took rather strange financial decisions, especially with respect to house purchases and mortgage products. Essentially, they were lacking financial sophistication (or even common sense). This begs the question, what are the characteristics of financially sophisticated and unsophisticated households?
Laurent E. Calvet, John Y. Campbell and Paolo Sodini answer this question using household finance panel data from Sweden. They distinguish three types of mistakes: under-diversification, inertia in risk taking and disposition effect (the unwillingness to realize losses and too high willingness to realize gains). It would not surprise you to learn that richer households are more sophisticated in financial matters, after all this is probably the reason they got rich. But, interestingly, other factors are more important. Household size matters a lot: the more children, the more sophisticated the finances. Education and financial experience matter less. Of course, exception abound, like the California octuplets mom proves. But is shows that people are much more careful when financial decisions matter: you have children, you have some wealth, you have perspectives of future wealth (being educated). If the worst that can happen to you is foreclosure and you have little to start with, foolish financial decisions will not matter much.