Module 2 Flashcards
behavioral finance
field of study that relates behavioral and cognitive psychology to financial planning and economics in an attempt to understand why people react irrationally during the financial decision making process.
cognitive errors
is when decision making is based on well known concepts that may or not be correct.
Often a result of faulty reasoning and typically arise from a lack of understanding of proper statistical analysis techniques, information processing mistakes, faulty reasoning or memory errors.
anchoring
involves making irrational decisions based on information that should have no influence on the decisions at hand.
illusion of control bias
when clients believe they can control or affect outcomes.
money illusion
Is the misunderstanding people have in relating nominal rates or prices with real (inflation adjusted) rates or prices. (think one dollar has the same value today, tomorrow and in the future)
confirmation bias
occurs when individual look for new information or distort new information to support an existing view.
hindsight bias
is a selected memory of past events, actions or what was known in the past.
representativeness
is the tendency when considering choices when making a decision to recall a past experience similar to the present decision making situation and assume one is like the other. (when investors become overly negative about investments that have done poorly in the past and overly positive about investments that have done well in the past)
conservatism bias
occurs when individual initially forms a rational view but fail to change that view as new information becomes available.
cognitive dissonance
when newly acquired information conflicts with pre-existing understanding, people often experience mental discomfort.
framing bias
asserts that people are given a frame of reference, a set of beliefs or values that they use to interpret facts or conditions as they make decisions. Under this concept individuals often choose a guaranteed positive outcome (while avoiding a chance of greater return that also carries the possibility of no gain at all)
mental accounting
(also known as money jar mentality) tendency to put money into separate accounts based on the purpose of the money.
outcome bias
Is the tendency for individuals to take a course of action based on the outcomes of prior events.
self-attribution bias
take credit for their successes and either blame others or external influences for failures.
recency bias
Information that is more recent, is considered more important and valuable than less current information.
illusion of control bias
when clients believe they can control or affect outcomes when they can’t
Open Ended Questions
Requires the client to answer in their own words.
emotional bias
stem from feelings, impulses or intuition
loss aversion theory
clients fear losses more than they value gains, and prefer avoiding losses to acquiring the same amount in gains.
overconfidence
clients believe they can control random events merely by acquiring more knowledge and consider their abilities to be much better than they are.
self control bias
occurs when individuals lack self-discipline and favor immediate gratification over long term goals.
status quo bias
occurs when comfort with an existing situation leads to an unwillingness to make changes even thought the change is likely to be beneficial.
endowment bias
occurs when an asset is felt to be special and more valuable simply because it is already owned. Once an individuals own an asset, they irrationally overvalue them, regardless of the assets actual value.
Regret aversion bias
occurs when individuals do nothing out of excess fear that your decisions or actions could be wrong.
Affinity bias
refers to the tendency to make decisions based on how individuals believe the outcomes will represent their interests and values. Ethnic, religious, or alumni afflictions can be the source of affinity bias.
Risk tolerance
is the trade off that clients are willing to make between potential risks and rewards.
Risk perception
is the client’s assessment of the magnitude of the risks being traded off.
Risk capacity
is the degree to which a client’s financial resources can cushion risk.
Attitudes
reflect a person’s opinions, values and wants.
Values
attitudes and beliefs for which a person feels strongly and represent what a person believes to be right.
Context
past history or any conditions that presently exist.
perception
individuals personal awareness of things, people events or ideas.
Judgement
involves making conclusions about what has been perceived.
psychological profiles
the unique profile of a client will allow the planner to accurately predict the way the clients will perceive and judge any recommendations.
visual learning styles
tend to respond to visual objects, such as graphs, charts, pictures and reading information. Visual learners will express themselves through facial expressions and often have interest such as movies and spectator sports.
auditory learning styles
retain information by hearing or speaking. They express themselves through words and often enjoy music and conversation.
kinesthetic learning styles
understand concepts better using a hands on approach. For example- writing goals and objectives with bullet points. Kinesthetic learners often express themselves through body language and tend to enjoy physical activities.
Financial counseling
a process that helps clients change poor financial behavior through education and guidance.
Economic and resource approach
Clients are assumed to be rational and will change to the most favorable behavior if then the appropriate counseling. In this approach, the advisor is the agent of change
Classical economics approach
Clients choose among alternatives based on objectively defined cost-benefit and risk return tradeoffs.
Strategic management approach
A clients goals and values drive the client planner relationship. Conducting a SWOT analysis is done early in the financial process. The planner services as a consultant.
Cognitive behavioral approach
Clients attitudes, beliefs, and values influence their behavior. Planners using this approach attempt to substitute negative beliefs that lead to poor financial decisions with positive attitudes, which should result in better financial results.
Psychoanalytic approach
Based on the use of Freudian or Gestalt theory this approach is not widely used by planners.
closed-ended questions
questions that require only a yes or a no answer
interpersonal cummunication
communicating one on one. it involves understand differences when communicating across generations, cultures, and genders, and will ensure that the listener understands and responds effectively.
body language
involves facial expressions, eye contact, gestures and body posture. It impacts how a client receives messages more than any other type of communication.
pitch
is the sound quality of highness or lowness of one’s voice.
tone
is the inflection of voice or emphasis on certain words and shows attitude, whether humor, anger, sincerity, or sarcasm.
mirroring
imitating clients gestures, and physical positions or by similar verbal style.
emotional intelligence
includes the ability to recognize emotional expressions in themselves and their clients as well as selecting socially appropriate responses to the circumstances and their clients emotions.
