Behavioral market Flashcards
is the market really efficient?
- EMH (efficient market hypothesis) are widely tested all over the world
- However, there is some patterns that inconsistent in the hypothesis
- Therefore, this shows investors can earn APLHA which is Alpha refers to the excess return achieved by an investment strategy or portfolio compared to the return of the overall market as an evidence.
- These evidence is also known as Market Anomalies
What is a market anomalies ?
- Calendar effect
- Small firm anomaly
- Value effect anomaly
- Momentum effect
- Superstitious effects
Elaborate the value effect anomaly
-phenomenon observed in financial markets where stocks with low valuation ratios (such as low price-to-earnings or price-to-book ratios) tend to outperform stocks with high valuation ratios over the long term
- Value stocks are typically characterized by low prices relative to their fundamental metrics, indicating that the market has undervalued them.
- growth stocks are associated with high valuations due to their potential for future growth.
-The value effect suggests that, historically, value stocks have generated higher returns than growth stocks.
Elaborate Calendar effect
-January effect : Security prices increases in a year of January compared to the other months, less pronounced
-Monday effect : stock market returns will follow the prevailing trends from the previous friday, by opening it on monday
Elaborate Small firm anomaly
- Small firm are tend to outperform bigger firm
- This is because of the higher chances of growth rate and lower prices in small firm
Elaborate the momentum effect
- phenomenon observed in financial markets where stocks that have performed well in the recent past continue to outperform in the near future, while stocks that have performed poorly continue to underperform.
Elaborate the superstitious effect (MARK TWAIN EFFECT)
- From Mark Twain, who once remarked, “October: This is one of the peculiarly dangerous months to speculate in stocks
eg. some investors may believe that October is a particularly volatile month for the stock market due to historical market crashes such as the Great Depression in October 1929 or the 1987 “Black Monday” crash
Elaborate the superstitious effect (SUPERBOWL EFFECTS)
-The Super Bowl effect refers to the belief that the outcome of the Super Bowl (the championship game of the National Football League in the United States) can predict the direction of the stock market for the year
- The Super Bowl effect is an example of an irrational belief that assigns predictive power to a random event.
-There is no logical or fundamental connection between the outcome of a football game and the performance of the stock market.
What create anomalies ?
- patterns in the data that might show some chances
- Behavioral biases
- Violations to the EMH ELEMENTS
What is a behavioral finance?
- It is a study that combines elements of psychology and economics to understand how individuals make financial decisions and how those decisions impact markets.
- It recognizes that investors are not always rational and that their behavior is influenced by cognitive biases, emotions, social factors, and other psychological factors.
- Behavioral finance does not aim to eliminate EMH, but to consider human factor in asset pricing
Pillars of behavioral finance?
(IPEF)
- Investors are not always rational
- Psychology
- Emotion
- Fear and Greed
Psychological Pitfall (overconfidence)
- It refers to the tendency for individuals to overestimate their abilities, knowledge, and the accuracy of their judgments or predictions.
- In the context of investing, overconfidence can lead to suboptimal decision-making and negative financial outcomes
- Cause investors to trade too often
Psychological Pitfall (loss aversion)
-Loss aversion refers to the tendency for individuals to feel the pain of losses more intensely than the pleasure of equivalent gains
eg. they will hang on to losing stocks hoping they will bounce back
eg. Investors may become more focused on avoiding losses rather than maximizing gains.
Psychological Pitfall (Representative)
-Investors tend to draw conclusions based on small samples
-Therefore, they will underestimates the effects of random chance
Psychological Pitfall (Herding behavior)
- occurs when individuals imitate the actions or decisions of a larger group without conducting their own independent analysis
- Could be following influential figure and trading by majority
