Section 2b Behavioral Investors

Question 1

Non-Systematic Biases (Behavioral biases)

Answer 1

Familiarity biases; Relative wealth concerns; Overconfidence

Question 2

Systematic trading biases (Behavioral biases)

Answer 2

Hanging on to losers and selling winners (the disposition effect); investors attention, mood, and experience; herd behavior and informational cascade effect.

Question 3

Familiarity bias

Answer 3

Non-systematic
Underdiversification
The tendency of investors to favor investments in companies with which they are familiar.

Question 4

Relative Wealth Concerns

Answer 4

Non-systematic
Underdiversification
When investors are concerned about their performance of their portfolio relative to that of their peers, rather than its absolute performance

Question 5

Overconfidence Bias

Answer 5

Non-systematic
Excessive trading
The tendency of individual investors to trade too much based on the mistaken belief that they can pick winners and losers better than investment professionals

Question 6

Bounded Rationality

Answer 6

Non-systematic
Inaction, Inertia, Sluggish behavior
The tendency of individual investors to trade too much based on the mistaken belief that they can pick winners and losers better than investment professionals

Question 7

How does the non-systematic biases affect markets?

Answer 7

They have no impact on prices and are not a problem if we assume rationality for the representative investors (the deviations are random). The deviations cancel each other over the entire populations and thus the average investors portfolio is efficient.

Question 7

How does the non-systematic biases affect markets?

Answer 7

They have no impact on prices and are not a problem if we assume rationality for the representative investors (the deviations are random). The deviations cancel each other over the entire populations and thus the average investors portfolio is efficient.

Question 8

Disposition Effect

Answer 8

Systematic
The tendency to hold on to stocks that have lost value and sell stocks that have risen in value since the time of purchase.

Question 9

Bold Event Bias, Own Experience Bias

Answer 9

Systematic
Investors are particularly influenced by bold news and salient event. Plus, investors tend to over-weight own experience, especially happening recently.

Question 10

Herd Behavior

Answer 10

Systematic
The tendency of investors to make similar trading errors by actively imitating other investors’ actions.

Question 11

What is the connection between behavioral biases and size effect

Answer 11

Individual investors hold inefficient large & growth stocks in a systematic way because they receive more news coverage.
These assets gets over-priced and deliver lower returns on expectations.
They will thus get less representation in the efficient portfolio.