Behavioural Finance: Emerging trends
Behavioral finance: Emerging trends
--Nihar Raut raut.nihar@gmail.com
What is behavioral finance?
What we know today as behavioral finance was initiated some three decades ago by a small number of people who asked questions seldom asked before and offered answers not offered before. Today, many people are engaged in behavioral finance, and there is wide disagreement about its boundaries and frontiers. Many see behavioral finance mainly as a refutation of the efficient market hypothesis and as a tool to beat the market.
Behavioral finance is an attempt to understand investors and the reflection of their interactions in financial markets. Such understanding can, for example, help investment professionals tamp down the overconfidence of investors in their ability to beat the market. Or it can help investment professionals cater to this overconfidence.
Standard approach to financial economics or Traditional finance.
Standard finance, also known as modern portfolio theory, has four foundation blocks:
(1) investors are rational;
(2) markets are efficient;
(3) investors should design their portfolios according to the rules of mean-variance portfolio theory and, in reality; and
(4) expected returns are a function of risk and risk alone.
Modern portfolio theory is no longer very modern, dating back to the late 1950s and early 1960s. Merton Miller and Franco Modigliani described investors as rational in 1961. Eugene Fama described markets as efficient in 1965. Harry Markowitz prescribed mean-variance portfolio theory in its early form in 1952 and in its full form in 1959. William Sharpe adopted mean-variance portfolio theory as a description of investor behavior and in 1964 introduced the capital asset pricing theory (CAPM). According to this theory, differences in expected returns are determined only by differences in risk, and beta is the measure of risk.
Behavioural finance contradiction to these four basic foundation blocks.
Investors are
--Nihar Raut raut.nihar@gmail.com
What is behavioral finance?
What we know today as behavioral finance was initiated some three decades ago by a small number of people who asked questions seldom asked before and offered answers not offered before. Today, many people are engaged in behavioral finance, and there is wide disagreement about its boundaries and frontiers. Many see behavioral finance mainly as a refutation of the efficient market hypothesis and as a tool to beat the market.
Behavioral finance is an attempt to understand investors and the reflection of their interactions in financial markets. Such understanding can, for example, help investment professionals tamp down the overconfidence of investors in their ability to beat the market. Or it can help investment professionals cater to this overconfidence.
Standard approach to financial economics or Traditional finance.
Standard finance, also known as modern portfolio theory, has four foundation blocks:
(1) investors are rational;
(2) markets are efficient;
(3) investors should design their portfolios according to the rules of mean-variance portfolio theory and, in reality; and
(4) expected returns are a function of risk and risk alone.
Modern portfolio theory is no longer very modern, dating back to the late 1950s and early 1960s. Merton Miller and Franco Modigliani described investors as rational in 1961. Eugene Fama described markets as efficient in 1965. Harry Markowitz prescribed mean-variance portfolio theory in its early form in 1952 and in its full form in 1959. William Sharpe adopted mean-variance portfolio theory as a description of investor behavior and in 1964 introduced the capital asset pricing theory (CAPM). According to this theory, differences in expected returns are determined only by differences in risk, and beta is the measure of risk.
Behavioural finance contradiction to these four basic foundation blocks.
Investors are
References: Paradigm Shifts in Finance − Some Lessons from the Financial Crisis:H. Kent Baker and Greg Filbeck. What Is Behavioral Finance? :Meir Statman The End of Behavioral Finance :Richard H. Thaler The Adaptive Markets Hypothesis: Market Efficiency from an Evolutionary Perspective: Andrew W. Lo Psychology of Successful Investing :Martin Sewell