Behavioral Finance Flashcards
study of influence of psychology on the behavior of investors or financial analysts
Behavioral Finance
Investors are not always_______, have _____ to their ____-_______, and are influenced by their own _______
rational, limits, self-control, biases
“the study of the influence of psychology on the behavior of financial practitioners and subsequent effects on the market”
Sewell (2001)
“application of psychology to financial behavior— the behavior of investment practitioners”
Shefrin (1999)
“study of human interprets and acts on information to make informed investment decisions”
Lintner G. (1998)
“seeks to understand and predict systematic financial market implications of psychology decision process”
Olsen R. (1998)
“combining twin discipline of psychology and economics to explain why and how people make seemingly irrational or illogical decisions when they save, invest, spend and borrow money”
Belsky and Gilovich (1999)
combining twin discipline of psychology and economics to explain why and how people make seemingly irrational or illogical decisions when they save, invest, spend and borrow money
Behavioral Economics
what are the twin discipline
Psychology and economics
“science regarding how psychology influences financial market” “individuals are affected by psychology factors like cognitive biases in their decision-making, rather than being rational and wealth maximizing”
W. Forbes (2009)
“challenges the theory of market efficiency by providing insights into why and how market can be inefficient due to irrationality in human behavior”
M. Sewell (2007)
- Investors’ biases are influencing their choices
- Experience and heuristics help in making complex decisions
- The mind process available information matching it with personal preferences
M. Schindler (2007)
taken from the field of psychology and finance, which tries to understand various ________ observations in stock market with better explanations.
puzzling
new area of financial research, attempts to explain market ______ and other market activity as well as proposes ________-based theories to explain ___________
Anomalies, psychology, stock market anomalies
discipline of behavioral economics, ultimately ______ the investing decisions of market players
shaping
contradicts the theory of _______ finance. Human beings are _____ and _____ at times, brings forward the consequences of personal biases over investment decisions
traditional, normal, irrational
Foundations of Behavioral Finance
Psychology
Sociology
Finance
5 Foundation Blocks of Standard Finance
- People are rational
- People construct portfolios as described by mean-variance portfolio theory
- People save and spend as described by standard life-cycle theory
- Expected returns of investments, standard asset pricing theory
- Markets are efficient, price equals value of all securities and markets are hard to beat
include only high expected returns and low risk
mean-variance portfolio theory
it is easy to identify and implement the right way to save and spend
standard life cycle theory
differences in expected returns are determined only by differences in risk
standard asset pricing theory
Second Generation 5 Foundation Blocks of Behavioral Finance
- People are normal
- People construct portfolio based on behavioral finance portfolio theory
- People save and spend according to behavioral life-cycle theory
- Expected returns of investment, as described by behavioral asset pricing theory
- Markets are inefficient in a way that price is equals to the value in them but efficient in a way that they are hard to beat
Extend beyond high expected returns and low risks, includes social responsibility and social status
Behavioral Finance Portfolio Theory
Impediments make it difficult to save and spend in the right way
Behavioral life-cycle theory
differences in expected returns are determined by more than just differences in risk
Behavioral asset pricing theory
Psychology of the stock marker by Selden
1912, Informal Origin
Study of Cognitive Dissonance by Fessinger
1956
Discussion of Risk Aversion and the utility function by Pratt
1964
Official Start of Behavioral Finance
1979
Author of Prospect Theory: A study of Decision Making under Risk
Daniel Kahneman and Amos Tversky
willing to take on more risk in the face of losses, but become more afraid of risk when it comes to protecting gain
loss averse
Bedrock of Traditional Finance
Notion of rational man— rational expectations wealth maximizer
View money as being in separate and disparate pools depending on function
Richard Thaler
Founding Fathers of Behavioral Finance
Daniel Kahneman, Amos Tversky, Richard Thaler
works of Founding Fathers of Behavioral Finance
Biases Literature
Scope of Behavioral Finance
Investors, Corporations, Markets, Regulators, Educators
Behavioral Finance Concepts
Mental Accounting
Herd Behavior
Emotional Gap
Anchoring
Self-attribution
prospenity of the people to allocate money for specific purposes
Mental Accounting
people tend to mimic the financial behavior of the majority of the Herd
Herd Behavior
decision making based on extreme emotions or emotional strains
Emotional Gap
attaching a spending level to a certain reference
Anchoring
