Topic 1 - Normal vs. Rational Investors Flashcards
What is the goal of behavioural finance, aka what does it seek to understand?
Why do financial decisions make the choices they do (ones that don’t always seem logical)
What is behavioural Finance?
The influence of psychology on the behaviour of financial market participants
What do traditional finance theories assume about investors?
Investors always act rationally
What do rational investors do?
Only care about profits, morals aren’t in the equation, and they are indifferent between homemade dividends and company-paid dividends
What category are expressive and emotional benefits under?
Non-monetary advantages
What are expressive benefits?
Your investment is a statement about your values and beliefs (investing in sustainable energy even if it doesn’t offer the highest returns)
What are emotional benefits?
feeling good about your investment, sense of pride.
emotional benefits aren’t captured on financial graphs
when you hear good news about the advancements in green energy you have a sense of pride that you contributed to a cause you care about
What do many people exchange extra wealth for?
For emotional or expressive benefits
What does first-generation behavioural finance believe?
We are irrational and fall victim to cognitive and emotional errors.
What does second-generation behavioural finance believe?
we are normal, pursuing what normal people want. we fall victim to cognitive and emotional errors on our way to what we want.
What is an anchor?
The first piece of information said in negotiation is an anchor, everything said after that is always in comparison to the anchor.
What is an affinity emotional shortcut?
The natural liking for someone
If someone graduated from the same university as you, you might be susceptible to affinity and lowering your guard down.
What is system 1?
A mode of thinking that is fast, automatic, and intuitive.
Driven by instinct and emotions
It is sometimes perfect in some situations but can be costly in other situations
What is system 2?
A mode of thinking that is slow, deliberate, reflective and analytical.
Requires conscious effort and is used for tasks that involve logic, calculations, and critical reasoning.
When would you use system 1?
someone jumps out at you and you put your arms up, scream, run… this is a very automatic and fast reaction. If the person was a real threat to you then system 1 was definitely a good thing.
