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The Driehaus Center for Behavioral Finance developed a body of knowledge for behavioral finance as an introduction to the field’s central concepts. The content is organized by cognitive biases, emotional biases, effects and aversions, which are all known to hinder the decision-making process of finance professionals.
The document will also help you navigate the resource database by illustrating how the topic of each resource fits within the larger field of behavioral finance.
We propose that the decision to pay dividends is driven by prevailing investor demand for dividend payers. Managers cater to investors by paying dividends when investors put a stock price premium on payers, and by not paying when investors prefer nonpayers.
Unregulated U.S. corporations dramatically increased their debt usage over the past century. Aggregate leverage - low and stable before 1945 - more than tripled between 1945 and 1970 from 11% to 35%, eventually reaching 47% by the early 1990s. The median firm in 1946 had no debt, but by 1970 had a leverage ratio of 31%. This increase occurred in all unregulated industries and affected firms of all sizes. Changing firm characteristics are unable to account for this increase.
Can the government do anything to discourage short-term borrowing by the private sector? HBS Professor Robin Greenwood, Harvard University and Harvard Business School PhD candidate Samuel Hanson, and Harvard University Professor Jeremy C. Stein have a suggestion
Recent empirical research in finance has uncovered two families of pervasive regularities: underreaction of stock prices to news such as earnings announcements, and overreaction of stock prices to a series of good or bad news. In this paper, we present a parsimonious model of investor sentiment, or of how investors form beliefs, which is consistent with the empirical findings
A search through some introductory textbooks in economics indicates that if there has been any change, it has not yet filtered down to that level: the same assumptions are still in place as the cornerstones of economic analysis.
A Random Walk Down Wall Street has long been established as the first book to purchase when starting a portfolio. This new edition features fresh material on exchange-traded funds and investment opportunities in emerging markets; a brand-new chapter on “smart beta” funds, the newest marketing gimmick of the investment management industry; and a new supplement that tackles the increasingly complex world of derivatives.
The traditional finance paradigm, which underlies many of the other articles in this handbook, seeks to understand financial markets using models in which agents are “rational”
Drawing on research from around the advanced world, Daniel Pink outlines the six fundamentally human abilities that are essential for professional success and personal fulfillment—and reveals how to master them.
Action Design Network is a 501(c)3 non-profit organization founded in 2012 to promote the use of behavioral economics and psychology in policy and product design. The group has quickly grown to over 10,000 members with monthly events in cities across the US and Canada. Each month, speakers share research findings and practical lessons about how to help people voluntarily change daily routines and behavior to improve their lives.
Action Design Radio explores a variety of topics through the lens of behavioral science and psychology. Hosts Erik Johnson and Zarak Khan interview experts and practitioners to learn about cutting edge behavioral research, and how to practically apply it to fields like public policy and consumer products.
Drawing on psychology, evolutionary biology, neuroscience, artificial intelligence, and other fields, Adaptive Markets shows that the theory of market efficiency isn't wrong but merely incomplete. When markets are unstable, investors react instinctively, creating inefficiencies for others to exploit.
Alan S. Blinder—esteemed Princeton professor, Wall Street Journalcolumnist, and former vice chairman of the Federal Reserve Board under Alan Greenspan—is one of our wisest and most clear-eyed economic thinkers. In After the Music Stopped, he delivers a masterful narrative of how the worst economic crisis in postwar American history happened, what the government did to fight it, and what we must do to recover from it.
This blog explores academic finance and the application to real world scenarios for those who are not as well versed in finance
Trying to outwit the market is a bad gamble. If you're serious about investing for the long run, you have to take a no-nonsense, businesslike approach to your portfolio. This book takes you through the importance of proper asset allocation, portfolio diversification, and teaches you how to lock in gains.
Recent studies have found that the overall US industrial base relies heavily on public science, i.e., knowledge that originates from universities, research institutions, government laboratories, etc. This research effort narrows the focus to examine the public science linkage for an important, relatively new industry: biotechnology.
This book is a robust, honest resource that presents an alternative approach to the markets, combining traditional technical tools with fundamental analysis, behavioral finance, and other key concepts to enrich readers' trading knowledge. The author's comprehensive, educated look at the topic fills a huge need in the trading community.
The global financial crisis has made it painfully clear that powerful psychological forces are imperiling the wealth of nations today. From blind faith in ever-rising housing prices to plummeting confidence in capital markets, "animal spirits" are driving financial events worldwide. In this book, acclaimed economists George Akerlof and Robert Shiller challenge the economic wisdom that got us into this mess, and put forward a bold new vision that will transform economics and restore prosper
Stock prices do appear to be somewhat predictable. In particular, if one takes a long-term perspective (3-7 years) or examines individual securities that have experienced extreme price movements, then stock returns display significant negative serial correlation, in other words, prices are mean reverting. This column reviews some of this evidence.
A wine-loving economist we know purchased some nice Bordeaux wines years ago at low prices. The wines have greatly appreciated in value, so that a bottle that cost only $10 when purchased would now fetch $200 at auction. This economist now drinks some of this wine occasionally, but would neither be willing to sell the wine at the auction price nor buy an additional bottle at that price. Thaler (1980) called this pattern—the fact that people often demand much more to give up an object than they would be willing to pay to acquire it—the endowment effect
Fragility is a danger in all complex systems, and it is a growing danger in the increasingly interrelated global economy. Something is antifragile – a term Taleb coined – if it benefits from shocks, stress, disruption, randomness, or volatility. Thus, he teaches, people must learn to create systems, habits, and practices that survive and benefit from disruption.
I test the disposition effect, the tendency of investors to hold losing investments too long and sell winning investments too soon, by analyzing trading records for 10,000 accounts at a large discount brokerage house. These investors demonstrate a strong preference for realizing winners rather than losers.
We explore the history of mergers and acquisitions made by individual CEOs.We interpret the results as consistent with self-attribution bias leading to overconfidence. We also find evidence that the market anticipates future deals based on the CEO's acquisition history and impounds such anticipation into stock prices
Research on Behavioral Economics to try to describe it plain language.
Textbook taught in Behavioral Finance courses
Corporate finance aims to explain the financial contracts and the real investment behavior that emerge from the interaction of managers and investors. A complete explanation of financing and investment patterns therefore requires a correct understanding of the beliefs and preferences of these two sets of agents.
Behavioral finance studies the application of psychology to finance, with a focus on individuallevel cognitive biases. Author describes the sources of judgment and decision biases, how they affect trading and market prices, the role of arbitrage and flows of wealth between more rational and less rational investors, how firms exploit inefficient prices and incite misvaluation, and the effects of managerial judgment biases.
Behavioral Finance and Capital Markets reveals the main foundations underpinning neoclassical capital market and asset pricing theory, as filtered through the lens of behavioral finance. Szyszka presents and classifies many of the dynamic arguments being made in the literature on the topic. The connection between psychological factors responsible for irrational behavior and market pricing anomalies is featured as well as alternative explanations for various theoretical and empirical market puzzles.
Behavioral Finance and Investor Types is divided into two parts. Test Your Type, gives an overview of Behavioral Finance as well as the elements that come into play when figuring out BIT, like active or passive traits, risk tolerance, and biases.
In Behavioral Finance and Wealth Management, financial expert Michael Pompian shows you, whether you're an investor or a financial advisor, how to make better investment decisions by employing behavioral finance research.
Too frequently, investors—amateurs and professionals alike—unknowingly fall prey to their best investing intentions. Most often, their disappointment stems from a wide array of well-documented behavioral influences. We know that they are harmful to our financial health, yet we persist in them. Why are behavioral dilemmas so sticky to overcome? Meir’s research books and papers all provide invaluable insights on investment decision making for amateurs and professionals alike.
Behavioral investing seeks to bridge the gap between psychology and investing. All too many investors are unaware of the mental pitfalls that await them. Even once we are aware of our biases, we must recognize that knowledge does not equal behavior.
We are a global community of public and private sector decision makers, behavioral science researchers, policy analysts, and practitioners with a bold mission to promote the application of rigorous behavioral science research that serve the public interest.
With the common goal of exploring ways to collaborate to serve the public interest, our speakers will discuss how behavioral insights can enhance policymaking and practice, helping bridge the divide between behavioral scientists and policymakers.
BehavioralSight is a boutique advisory applying insights and methodologies from the growing field of Behavioral Science (cognitive and social psychology, economics, neuroscience, and more) to everyday business problems.
We present a model with leverage and margin constraints that vary across investors and time.
No matter how savvy or experienced, all financial practitioners eventually let bias, overconfidence, and emotion cloud their judgment and misguide their actions. Yet most financial decision-making models fail to factor in these fundamentals of human nature. Shefrin argues that financial practitioners must acknowledge and understand behavioral finance--the application of psychology to financial behavior--in order to avoid many of the investment pitfalls caused by human error.
Theoretical models predict that overconfident investors trade excessively. We test this prediction by partitioning investors on gender
BSP is an international peer-reviewed journal featuring short, accessible articles describing actionable policy applications of behavioral scientific research that serves the public interest
It’s hard to find a place today where concepts of behavioral finance aren’t being applied to real-world situations. From London to Washington to Sydney, governments are experimenting with the psychology of decision-making and trying to “nudge” citizens toward better behaviors, whether that means saving more for retirement or signing an organ donation card.
Recent equity carve-outs in US technology stocks appear to violate a basic premise of financial theory: identical assets have identical prices. In our 1998-2000 sample, holders of a share of company A are expected to receive x shares of company B, but the price of A is less than x times the price of B.
From academic publications and reports, to comics demonstrating behavioral science concepts through the eyes of our canine companions, our work takes many forms. While the formats are almost as wide-ranging as the subject matter, all of our work is aimed at using behavioral insights to tackle challenging problems at home and abroad.
Confirmation bias, as the term is typically used in the psychological literature, connotes the seeking or interpreting of evidence in ways that are partial to existing beliefs, expectations, or a hypothesis in hand. The author reviews evidence of such a bias in a variety of guises and gives examples of its operation in several practical contexts. Possible explanations are considered, and the question of its utility or disutility is discussed
A large part of the significant excess returns of value stocks are realized subsequent to positive earnings surprises, which have a systematically much greater positive effect on stocks which are undervalued using basic metrics than on their overvalued peers. The representativeness heuristic causes investors to simplistically label individual companies as "good" or "bad" investments regardless of their current valuation, developing binary and often unrealistic expectations about future results. Overconfidence and biased self-attribution lead to inaccurate perception of the accuracy of earnings estimates developed by analysts and investors themselves, making surprises both far more frequent and far more extreme than conventional investors anticipate.
Dan Egan is the Director of Behavioral Finance and Investments at Betterment. He has spent his career using behavioral finance to help people make better financial and investment decisions. Dan is a published author of multiple publications related to behavioral economics.
An Israeli-American psychologist notable for his work on the psychology of judgment and decision-making, as well as behavioral economics, for which he was awarded the 2002 Nobel Memorial Prize in Economic Sciences
Here, anthropologist David Graeber presents a stunning reversal of conventional wisdom: He shows that before there was money, there was debt.
The effect of optimism on the decisions of C-Suite executives
We investigate whether individual experiences of macroeconomic shocks affect financial risk taking, as often suggested for the generation that experienced the Great Depression.
A new wave of products is helping people change their behavior and daily routines, whether it’s exercising more (Jawbone Up), taking control of their finances (HelloWallet), or organizing their email (Mailbox). This practical guide shows you how to design these types of products for users seeking to take action and achieve specific goals.
We provide evidence that stocks with higher dispersion in analysts' earnings forecasts earn lower future returns than otherwise similar stocks.
Over the last 20 years, the field of behavioral finance has grown from a startup operation into a mature enterprise, with well-developed bodies of both theory and empirical evidence.
Two behavioral concepts, loss aversion and mental accounting, have been combined to provide a theoretical explanation of the equity premium puzzle. Recent experimental evidence supports the theory, as students' behavior has been found to be consistent with myopic loss aversion (MLA). Yet, much like certain anomalies in the realm of riskless decision‐making, these behavioral tendencies may be attenuated among professionals
It has long been part of the conventional wisdom on Wall Street that financial markets “overreact”
This paper will develop the efficient markets model in Section I to clarify some theoretical questions that may arise in connection with the inequality (1) and some similar inequalities will be derived that put limits on the standard deviation of the innovation in price and the standard deviation of the change in price. The model is restated in innovation form which allows better understanding of the limits on stock price volatility imposed by the model.
In textbook theory, demand curves for stocks are kept flat by riskless arbitrage between perfect substitutes. In reality, however, individual stocks do not have perfect substitutes. We develop a simple model of demand curves for stocks in which the risk inherent in arbitrage between imperfect substitutes deters risk‐averse arbitrageurs from flattening demand curves.
Research in experimental psychology suggests that, in violation of Bayes' rule, most people tend to "overreact" to unexpected and dramatic news events. This study of market efficiency investigates whether such behavior affects stock prices
Dollar Dash is a study into the psychology behind Peer-to-Peer (P2P) fundraising and the fuel that drives volunteer behavior. This book will teach you the keys to acquiring, retaining, and maximizing the support of donors and volunteers.
In Dollars and Sense, world-renowned economist Dan Ariely answers these intriguing questions and many more as he explains how our irrational behavior often interferes with our best intentions when it comes to managing our finances.
Groundbreaking and comprehensive, Driven to Distraction has been a lifeline to the approximately eighteen million Americans who are thought to have ADHD. Now the bestselling book is revised and updated with current medical information for a new generation searching for answers.
We analyze time-series of investor expectations of future stock market returns from six data sources between 1963 and 2011. The six measures of expectations are highly positively correlated with each other, as well as with past stock returns and with the level of the stock market
The favorite-longshot bias describes the longstanding empirical regularity that betting odds provide biased estimates of the probability of a horse winning—longshots are overbet, while favorites are underbet. Neoclassical explanations of this phenomenon focus on rational gamblers who overbet longshots due to risk-love.
Bubble episodes have fascinated economists and historians for centuries (e.g., Mackay 1841, Bagehot 1873, Galbraith 1954, Kindleberger 1978, Shiller 2000), in part because human behavior in bubbles is so hard to explain, and in part because of the devastating side effects of the crash.
Studies demonstrate that the familiarity bias is less pronounced among subjects who are asked to judge the probability of each event rather than which event is more likely. Moreover, a greater proportion of subjects rate the more familiar event as more likely than assign a higher probability to that event. These patterns can be construed as belief reversals, analogous to the preference reversal phenomenon in decision making.
This chapter provides a selective review of recent work in behavioral finance. Modern finance assumes that the study of substantively rational solutions to normative problems forms an adequate basis for understanding actual behavior.
The issue of corporate control is examined through an analysis of the de-diversification activity of publicly held American firms from 1985 to 1994. Prominent accounts of such behavior depict newly powerful shareholders as having demanded a dismantling of the inefficient, highly diversified corporate strategies that arose in the late 1950s and the 1960s.
People often confuse luck with skill, probability with certainty, and belief with knowledge. It is important to recognize the role of randomness in investing and in everyday life to avoid becoming a victim of superstition. Asymmetry is critical in finance since rare events can have major consequences. Taleb outlines methods to adjust for randomness in trading and use statistics and induction to make aggressive bets.
This paper documents that hedge funds did not exert a correcting force on stock prices during the technology bubble.
Experts in BF who provide their insights when providing investment recommendations
Hongjun Yan is a teacher and scholar who specializes in behavioral finance, which studies the psychological aspects of financial decision-making. Yan's research focuses on asset pricing in the presence of frictions, including market imperfections and bounded rationality.
Most applications of behavioral economics, finance, and accounting research to policy focus on alleviating the adverse effects of individuals’ biases and cognitive constraints, e.g., through investor protection rules or nudges. The authors argue that it is equally important to understand how psychological bias can cause a collective dysfunction—bad accounting policy and financial regulation.
Written by eight times World Memory Champion, Dominic O'Brien this book is a complete course in memory enhancement. Dominic takes you step-by-step through an ingenious program of skills, introducing all his tried and tested techniques on which he has built his triumphant championship performances.
In How to Have a Good Day, Webb explains exactly how to apply this science to our daily tasks and routines. She translates three big scientific ideas into step-by-step guidance that shows us how to set better priorities, make our time go further, ace every interaction, be our smartest selves, strengthen our personal impact, be resilient to setbacks, and boost our energy and enjoyment
We grew out of research programs in psychology and economics at top academic institutions, and our work draws on decades of experimental scientific research. We use these insights to design scalable ways to improve programs, policies and products in the real world.
The paper tests whether individuals have value‐relevant information about local stocks (where “local” is defined as being headquartered near where an investor lives). Our methodology uses two types of calendar‐time portfolios—one based on holdings and one based on transactions.
This book describes an alternative approach to the study of financial markets: behavioral finance. This approach starts with an observation that the assumptions of investor rationality and perfect arbitrage are overwhelmingly contradicted by both psychological and institutional evidence.
People exaggerate the degree to which small samples resemble the population from which they are drawn. To model this belief in the "Law of Small Numbers," the author assumes that a person exaggerates the likelihood that a short sequence of i.i.d. signals resembles the long-run rate at which those signals are generated.
The basic paradigm of asset pricing is in vibrant flux. The purely rational approach is being subsumed by a broader approach based upon the psychology of investors. In this approach, security expected returns are determined by both risk and misvaluation.
The authors review extensive evidence about how psychological biases affect investor behavior and prices. Systematic mispricing probably causes substantial resource misallocation. Arguing, that limited attention and overconfidence cause investor credulity about the strategic incentives of informed market participants.
In this revised, updated, and expanded edition of his New York Times bestseller, Nobel Prize–winning economist Robert Shiller, who warned of both the tech and housing bubbles, cautions that signs of irrational exuberance among investors have only increased since the 2008–9 financial crisis.
Provides interesting posts on real life applications when looking at how and why we make certain financial and economic decisions
Many decisions are based on beliefs concerning the likelihood of uncertain events such as the outcome of an election, the guilt of a defendant, or the future value of the dollar.
We examine 82 situations where the market value of a company is less than its subsidiary. These situations imply arbitrage opportunities, providing an ideal setting to study the risks and market frictions that prevent arbitrageurs from immediately forcing prices to fundamental values.
This article examines local bias in the context of venture capital (VC) investments. Based on a sample of U.S. VC investments between 1980 and June 2009, we find more reputable VCs (older, larger, more experienced, and with stronger IPO track record) and VCs with broader networks exhibit less local bias. Staging and specialization in technology industries increase VCs' local bias.
It is well known that firms are more likely to issue equity when their market values are high, relative to book and past market values, and to repurchase equity when their market values are low. We document that the resulting effects on capital structure are very persistent.
Conversation with neuroscientist Julia Sperling about effects of behavioral science in the world of business
Debiasing business decision making has drawn board-level attention, as companies doing it are achieving marked performance improvements
McKinsey created this podcast to provide valuable insight on how behavioral science has shaped the world of business
Mental accounting is the set of cognitive operations used by individuals and households to organize, evaluate, and keep track of financial activities. Making use of research on this topic over the past decade, this paper summarizes the current state of our knowledge about how people engage in mental accounting activities. Three components of mental accounting receive the most attention. This first captures how outcomes are perceived and experienced, and how decisions are made and subsequently evaluated. The accounting system provides the inputs to be both ex-ante and ex-post cost-benefit analyses. A second component of mental accounting involves the assignment of activities to specific accounts. Both the sources and uses of funds are labeled in real as well as in mental accounting systems. Expenditures are grouped into categories (housing, food, etc.), and spending is sometimes constrained by implicit or explicit budgets. The third component of mental accounting concerns the frequency with which accounts are evaluated and ‘choice bracketing.’ Accounts can be balanced daily, weekly, yearly, and so on, and can be defined narrowly or broadly. Each of the components of mental accounting violates the economic principle of fungibility. As a result, mental accounting influences choice, that is, it matters.
The authors study equilibrium firm‐level stock returns in two economies: one in which investors are loss averse over the fluctuations of their stock portfolio, and another in which they are loss averse over the fluctuations of individual stocks that they own.
Mindshift reveals how we can overcome stereotypes and preconceived ideas about what is possible for us to learn and become.
Richard H. Thaler has spent his career studying the radical notion that the central agents in the economy are humans - predictable, error-prone individuals. Misbehaving is his arresting, frequently hilarious account of the struggle to bring an academic discipline back down to earth - and change the way we think about economics, ourselves, and our world.
The term “money illusion” refers to a tendency to think in terms of nominal rather than real monetary values. Money illusion has significant implications for economic theory, yet it implies a lack of rationality that is alien to economists
We experimentally disentangle the effect of information feedback from the effect of investment flexibility on the investment behavior of a myopically loss averse investor. Our findings show that varying the information condition alone suffices to induce behavior that is in line with the hypothesis of Myopic Loss Aversion
It is hypothesized that health professionals in the United States and the United Kingdom are nationally biased in their citation practices. Articles published in the New England Journal of Medicine and Lancet were used to study citation practices of U.S. and U.K. authors. Percentages of cited references to material published in a specific country were calculated for both the New England Journal of Medicine and Lancet.
Empirical research on mergers and acquisitions has revealed a great deal about their trends and characteristics over the last century. For example, a profusion of event studies has demonstrated that mergers seem to create shareholder value, with most of the gains accruing to the target company. This paper will provide further evidence on these questions, updating our database of facts for the 1990s
Professor Barberis’ research focuses on behavioral finance—in particular, on applications of cognitive psychology to understanding investor trading behavior and the pricing of financial assets. He has published extensively in the top economics and finance journals, gives frequent presentations about his work to both academic and non-academic audiences, and has won numerous awards for both research and teaching.
This collection challenges the popular but abstract concept of nudging, demonstrating the real-world application of behavioral economics in policy-making and technology. It considers the existing political incentives and regulatory institutions that shape the environment in which behavioral policy-making occurs, as well as alternatives to government nudges already provided by the market. The contributions discuss the use of regulations and technology to help consumers overcome their behavioral biases and make better choices, considering the ethical questions of government and market nudges and the uncertainty inherent in designing effective nudges. Four case studies - on weight loss, energy efficiency, consumer finance, and health care - put the discussion of the efficiency of nudges into concrete, recognizable terms.
In Nudge: Improving Decisions About Health, Wealth, and Happiness by Richard Thaler and Cass Sunstein, the authors provide information on how the configuration of the places in which we make decisions influences our choices
Omission bias is the preference for harm caused by omissions over equal or lesser harm caused by acts. The data suggest that the bias is largely based on the distinction between direct and indirect causation, rather than that between action and inaction as such. We report substantial individual differences: some subjects show action bias.
We show that measurable managerial characteristics have significant explanatory power for corporate financing decisions.
Having appropriate confidence is important for making appropriate risky decisions, for knowing when to seek advice and information, and for communicating one’s knowledge. Judging appropriate confidence is not easy. Aside from that, there is a general tendency toward overconfidence, which can be quite severe in some conditions, but is not universal. The authors explore methods for improving accuracy in subjects' overconfidence.
In their recent book, Pay Without Performance: The Unfulfilled Promise of Executive Compensation, the authors of this article provided a comprehensive critique of U.S. executive pay practices and the corporate governance processes that produce them, and then offered a number of proposals for improving both pay and governance. This article presents an overview of their analysis and proposals.
Why does value investing work? Why do other factor strategies work? For that matter, why does any active strategy—meaning, any strategy other than capitalization-weighted indexing—“work” in the sense of having a reasonable chance of beating the cap-weighted index other than by random variation? The answer could like in classical finance, or behavioral finance, or both.
Behavioral economist and New York Times bestselling author Dan Ariely offers a much-needed take on the irrational decisions that led to our current economic crisis.
The author of cult classics The Pumpkin Plan and The Toilet Paper Entrepreneur offers a simple, counterintuitive cash management solution that will help small businesses break out of the doom spiral and achieve instant profitability.
This paper presents a critique of expected utility theory as a descriptive model of decision making under risk, and develops an alternative model, called prospect theory.
In the present study, we (1) investigated the relationship between PVs and acts versus omissions in risky choices, using a paradigm in which act and omission biases were presented in a symmetrical manner, and (2) examined whether people holding PVs respond differently to framing manipulations. Participants were given environmental scenarios and were asked to make choices between actions and omissions.
Some key elements of the psychological attraction approach are: salience and vividness, omission bias, scapegoating and xenophobia, fairness and reciprocity norms, overconfidence, and mood effects.This approach further emphasises emergent effects that arise from the interactions of individuals with psychological biases.
In this article I discuss a selection of psychological findings relevant to economics.
In this paper, I survey the empirical evidence from the field on these three classes of deviations. The evidence covers a number of applications, from consumption to finance, from crime to voting, from giving to labor supply. In the class of non-standard preferences, I discuss time preferences (self-control problems), risk preferences (reference dependence), and social preferences.
The seemingly never-ending scandals in the world of finance, accompanied by their damaging effects on value and human welfare, make a strong case for an addition to the current paradigm of financial economics. We summarize here our new theory of integrity that reveals integrity as a purely positive phenomenon with no normative aspects whatsoever.
In Quantitative Value, Wesley Gray and Tobias Carlisle take the best aspects from the disciplines of value investing and quantitative investing and apply them to a completely unique and winning approach to stock selection.
To illustrate, the article reexamines some of the most serious historical evidence against market rationality.
The contribution of this paper is to formalize this overoptimism mechanism in a general form, to demonstrate how it can cause several other well-known judgment biases, and to derive comparative statics that determine when these biases will be most pronounced and allow verification of the model.
This paper documents that strategies which buy stocks that have performed well in the past and sell stocks that have performed poorly in the past generate significant positive returns over 3- to 12-month holding periods. We find that the profitability of these strategies are not due to their systematic risk or to delayed stock price reactions to common factors.
An American economist and the Charles R. Walgreen Distinguished Service Professor of Behavioral Science and Economics at the University of Chicago Booth School of Business. In 2015, Thaler was president of the American Economic Association
The foundation supports innovative research that uses behavioral insights from psychology and other social sciences to examine and improve social and living conditions in the United States
This study analyzes the role that two psychological attributes—sensation seeking and overconfidence—play in the tendency of investors to trade stocks.
Sunk costs are irrecoverable investments that should not influence decisions, because decisions should be made on the basis of expected future consequences. Both human and nonhuman animals can show sensitivity to sunk costs, but reports from across species are inconsistent. In a temporal context, a sensitivity to sunk costs arises when an individual resists ending an activity, even if it seems unproductive, because of the time already invested. In two parallel foraging tasks that we designed, we found that mice, rats, and humans show similar sensitivities to sunk costs in their decision-making. Unexpectedly, sensitivity to time invested accrued only after an initial decision had been made. These findings suggest that sensitivity to temporal sunk costs lies in a vulnerability distinct from deliberation processes and that this distinction is present across species.
He is trying to address a broader set of societal by using the tools of digital nudging.
In his most provocative and practical book yet, one of the foremost thinkers of our time redefines what it means to understand the world, succeed in a profession, contribute to a fair and just society, detect nonsense, and influence others. Citing examples ranging from Hammurabi to Seneca, Antaeus the Giant to Donald Trump, Nassim Nicholas Taleb shows how the willingness to accept one’s own risks is an essential attribute of heroes, saints, and flourishing people in all walks of life.
For an undergraduate introductory level course in social psychology. Research made relevant through a storytelling approach. This renowned text maintains its acclaimed storytelling approach to convey the science of social psychology while making research relevant to students.
Most real decisions, unlike those of economics texts, have a status quo alternative—that is, doing nothing or maintaining one's current or previous decision. A series of decision-making experiments shows that individuals disproportionately stick with the status quo. Data on the selections of health plans and retirement programs by faculty members reveal that the status quo bias is substantial in important real decisions.
The authors of the best-selling Bold and The Rise of Superman explore altered states of consciousness and how they can ignite passion, fuel creativity, and accelerate problem solving, in this groundbreaking book in the vein of Daniel Pink's Drive and Charles Duhigg's Smarter Faster Better.
Head of BF at Morningstar where they use behavioral econ and psych to help people take control of their money and pursue their financial goals.
We study the asset pricing implications of Tversky and Kahneman’s (1992) cumulative prospect theory, with a focus on its probability weighting component.
In Superforecasting, Tetlock and coauthor Dan Gardner offer a masterwork on prediction, drawing on decades of research and the results of a massive, government-funded forecasting tournament. The Good Judgment Project involves tens of thousands of ordinary people who set out to forecast global events. Some of the volunteers have turned out to be astonishingly good. They’ve beaten other benchmarks, competitors, and prediction markets. They’ve even beaten the collective judgment of intelligence analysts with access to classified information. They are "superforecasters." Tetlock and Gardner show us how we can learn from this elite group.
This paper explores the effectiveness of several methods to reduce the overconfidence bias. The authors examine the use of counterfactuals and hypothetical bets to improve decision-making.
The "hot hand" describes the belief that the performance of an athlete, typically a basketball player, temporarily improves following a string of successes. Although some earlier research failed to detect a hot hand, these studies are often criticized for using inappropriate settings and measures.
Evidence from four studies demonstrates that social observers tend to perceive a “false consensus” with respect to the relative commonness of their own responses. A related bias was shown to exist in the observers' social inferences.
In today’s troubling economic times, the quality of our retirement depends upon our own portfolio management. But for most of us, investing can be stressful and confusing, especially when supposedly expert predictions fail. Enter The 3% Signal. Simple and effective, Kelly’s plan can be applied to any type of account, including 401(k)s—and requires only fifteen minutes of strategizing per quarter. No stress. No noise. No confusion.
I comment on the origins of behavioral finance, its methods, key findings, strengths, weaknesses, and impact. Whether unwise citizens on occasion ought to be nudged into choices that decision experts think are better for them, is not a question that science can answer but that should be left to open and democratic debate.
Unlikely events seem impossible when they lie in the unknown or in the future. Simplifications, mental schemas, heuristics, biases, self-deception – these are not “bugs” in the cognitive system, but useful features that allow the human mind to concentrate on the task at hand and not get overwhelmed by a literally infinite amount of data. But human simplifying mechanisms are not without their costs. Nassim Taleb outlines several "epistemic virtues" that can help practitioners navigate black swans and minimize the costs of evolutionary heuristics.
One of the most significant and unique features in Kahneman and Tversky's approach to choice under uncertainty is aversion to loss realization.
Misconceptions about how the laws of probability operate cause us a variety of problems. For instance, we often think people are skilled when they’re just lucky and unskilled when they’re unlucky. The world, rather than fitting neatly into black and white categories, tends towards gray. The key is to recognize when you are at risk of misperceiving the role chance plays.
We survey 401 financial executives, and conduct in-depth interviews with an additional 20, to determine the key factors that drive decisions related to reported earnings and voluntary disclosure. The majority of firms view earnings, especially EPS, as the key metric for outsiders, even more so than cash flows.
The share of equity issues in total new equity and debt issues is a strong predictor of U.S. stock market returns between 1928 and 1997. In particular, firms issue relatively more equity than debt just before periods of low market returns.
In basketball, the player with the “Hot Hand” is supposedly more likely to make his next shot if he has made several of his previous shots. Among academics, this notion of streak shooting has been disproven enough times that it is referred to not as the “Hot Hand,” but rather as the “Hot Hand Fallacy.”
A troubled global economy, unpredictable markets, and a bewildering number of investment choices create a dangerous landscape for individual and institutional investors alike. To meet this challenge, most of us rely on a portfolio of fund managers to take risk on our behalves. Here, investment expert Brian Portnoy delivers a powerful framework for choosing the right ones – and avoiding the losers.
In The Invisible Gorilla, Christopher Chabris and Daniel Simons use remarkable stories and counterintuitive scientific findings to demonstrate an important truth: Our minds don’t work the way we think they do. We think we see ourselves and the world as they really are, but we’re actually missing a whole lot. Chabris and Simons combine the work of other researchers with their own findings on attention, perception, memory, and reasoning to reveal how faulty intuitions often get us into trouble.
Dr. Crosby's training as a clinical psychologist and work as an asset manager provide a unique vantage and result in a book that breaks new ground in behavioral finance.
Bias, emotion, and overconfidence are just three of the many behavioral traits that can lead investors to lose money or achieve lower returns. Behavioral finance, which recognizes that there is a psychological element to all investor decision-making, can help you overcome this obstacle.
The maturity of new debt issues predicts excess bond returns. When the share of long-term debt issues in total debt issues is high, future excess bond returns are low.
The organization is dedicated to conducting economic research and to disseminating research findings among academics, public policy makers, and business professionals
Companies issuing stock during 1970 to 1990, whether an initial public offering or a seasoned equity offering, have been poor long-run investments for investors.
The sunk cost effect is manifested in a greater tendency to continue an endeavor once an investment in money, effort, or time has been made. Evidence that the psychological justification for this behavior is predicated on the desire not to appear wasteful is presented. The study shows that participants who had incurred a sunk cost inflated their estimate of how likely a project was to succeed compared to the estimates of the same project by those who had not incurred a sunk cost regardless of prior economic education. The effect cannot be fully subsumed under any of several social psychological theories.
A series of shifts are happening in our economy: Millennials are trading in conventional career paths to launch tech start-ups, start small businesses that are rooted in local communities, or freelance their expertise. We are sharing everything, from bikes and cars, to extra rooms in our homes.
Keith Stanovich and Richard West demonstrate the rational thinking is a measurable cognitive competence. Drawing on theoretical work and empirical research from the last two decades, they present the first prototype for an assessment of rational thinking analogous to the IQ test: the CART (Comprehensive Assessment of Rational Thinking). They further describe the theoretical underpinnings of the CART, distinguishing the algorithmic mind from the reflective mind. The authors also discuss the logic of the tasks used to measure cognitive biases, and they develop a unique typology of thinking errors.
This paper finds that firms that meet or beat current analysts' earnings expectations (MBE) enjoy a higher return over the quarter than firms with similar quarterly earnings forecast errors that fail to meet these expectations. Further, such a premium to MBE, although somewhat smaller, exists in cases where MBE is likely to have been achieved through earnings or expectations management.
Decision support systems (DSS) have been designed in part to help circumvent human cognitive biases that hinder effective decision making. One bias that has been overlooked in the area of DSS is the familiarity bias. It has been researched primarily for making probability comparisons in the field of social psychology and for making investment decisions in finance, and it has been shown to impair quality decisions.
Dr. Gerry Pallier and his co-authors identify a "confidence factor" test subjects exhibit that is related to their personality traits and cognitive abilities to a small extent. This factor mediates the individuals' decision-making process, and their ability to effectively evaluate the accuracy of their judgment. It is generalizable accross many domains of behavior. The results of their experiments support both the ecological and the heuristics and biases approaches to confidence.
Drawing on his own groundbreaking work, Silver examines the world of prediction, investigating how we can distinguish a true signal from a universe of noisy data. Most predictions fail, often at great cost to society, because most of us have a poor understanding of probability and uncertainty. Both experts and laypeople mistake more confident predictions for more accurate ones. But overconfidence is often the reason for failure. If our appreciation of uncertainty improves, our predictions can get better too. This is the “prediction paradox”: The more humility we have about our ability to make predictions, the more successful we can be in planning for the future.
The sunk cost effect is a maladaptive economic behavior that is manifested in a greater tendency to continue an endeavor once an investment in money, effort, or time has been made. The Concorde fallacy is another name for the sunk cost effect, except that the former term has been applied strictly to lower animals, whereas the latter has been applied solely to humans.
This article theoretically and empirically analyses behaviour in penny auctions, a relatively new auction mechanism. As in the US dollars or war-of-attrition, players in penny auctions commit higher non-refundable costs as the auction continues and only win if all other players stop bidding.
The authors conduct experiments to explore the possibility that subject misconceptions, as opposed to a particular theory of preferences referred to as the "endowment effect," account for reported gaps between willingness to pay ("WTP") and willingness to accept ("WTA").
Now, with Think Like a Freak, Steven D. Levitt and Stephen J. Dubner have written their most revolutionary book yet. With their trademark blend of captivating storytelling and unconventional analysis, they take us inside their thought process and offer a blueprint for an entirely new way to solve problems.
By shifting your thinking from a need for certainty to a goal of accurately assessing what you know and what you don't, you'll be less vulnerable to reactive emotions, knee-jerk biases, and destructive habits in your decision making. You'll become more confident, calm, compassionate, and successful in the long run.
Thinking Fast and Slow by Daniel Kahneman analyses two modes of thought; “System 1” is fast, instinctive and emotional; “System 2” is slower, more deliberative, and more logical. It examines emotional thought versus more logical thought.
The paper accomplished two things. It collected in one place a series of simple he paper accomplished two things. It collected in one place a series of simple but compelling demonstrations that, in laboratory settings, people systematically ut compelling demonstrations that, in laboratory settings, people systematically violate the predictions of expected utility theory, economists’ workhorse model of iolate the predictions of expected utility theory, economists’ workhorse model of decision making under risk.
His research studies financial markets and investments, including the behavior of prices and investors. He has explored topics as diverse as momentum in stock returns, biases in investment portfolios, the social effects of bank mergers, the return to private business ownership, mutual and hedge fund performance, the political economy of financial regulation, and the economics of sports.
Individual investors who hold common stocks directly pay a tremendous performance penalty for active trading.
The book reveals the truth about a trading strategy that makes money in up, down and surprise markets. By applying straightforward and repeatable rules, anyone can learn to make money in the markets whether bull, bear, or black swan—by following the trend to the end when it bends.
Papers from all areas of behavioral finance are looked at and discussed at length
We conduct a study in which subjects trade stocks in an experimental market while we measure their brain activity using functional magnetic resonance imaging. All of the subjects trade in a suboptimal way.
We find consistent value and momentum return premia across eight diverse markets and asset classes, and a strong common factor structure among their returns. Value and momentum returns correlate more strongly across asset classes than passive exposures to the asset classes, but value and momentum are negatively correlated with each other, both within and across asset classes.
This chapter reviews research concerning a variety of confirmation biases and discusses what they have in common and where they differ. The overall picture is one of heterogeneous, complex, and inconsistent phenomena, from which it is nevertheless possible to discern a general direction, namely a general tendency for people to believe too much in their favored hypothesis.
Werner F.M. De Bondt is a finance professor and economist who studies the psychology of financial decision-making. He is one of the founders of the field of behavioral finance and the founding director of the Driehaus Center for Behavioral Finance at DePaul.
Combining the new field of behavioral finance with the real world of investing, this engaging new book explores the mind-sets and motivations behind the major money decisions--and most common mistakes―that investors make every day.
Does CEO overconfidence help to explain merger decisions? Overconfident CEOs overestimate their ability to generate returns. As a result, they overpay for target companies and undertake value-destroying mergers.
Filled with fresh insight; practical advice; and lively, illustrative anecdotes, this book gives you the tools you need to harness the powerful science of behavioral economics in any financial environment.
Survey evidence suggests that many investors form beliefs about future stock market returns by extrapolating past returns.
Week-long intensive course in BF for PhD Students