BEHAVIOR FINANCE

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This document summarizes key concepts in behavioral finance, which models how psychological factors influence investor behavior. It discusses two categories of irrationalities: errors in information processing and behavioral biases. Specific errors discussed include forecast errors due to overreacting to recent data, overconfidence, conservatism in updating beliefs, and neglecting sample size. Biases discussed include reference dependence, regret avoidance, house money effect, and mental accounting.

BEHAVIOR FINANCE
* Def: models of financial market that emphasize potential implications of psychological
factors affecting investor behaviors.
* Irrationalities fall into 2 categories {
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????? ???? ?????????????? ?????????? ????????
* INFO PROCESSING
1. Forecast errors: pp give too much weight to recent experience compared to prior beliefs
when making forecasts and tend to make forecast that are too extreme given uncertainty
inherent in their info.
i.e: a fair die with 3 outcomes are 6 >> whatever it is, the probability for each still is 1/6
2. Overconfidence: pp tend to overestimate the precision of their beliefs or forecast, and they
tend to overestimate their abilities. It normally results from the illusion of knowledge.
i.e: rank u in how well ur English?
3. Conservatism: investors are too slow in updating their beliefs in response to recent
evidence. They under react to news about the firm, so the price reflects the new info
gradually �� rise to MOMENTUM in stock market return.
4. Sample size neglect and representativeness: pp are too prone to believe that a small sample
is representative of broad population and infer patterns too quickly.
* BEHAVIOR BIASES
? Expectancy theory: behavioral theory that investor utility depends on gains or losses
from starting point, rather than on their levels of Wealth
i.e: Investor A bought stock at $100, and B bought at $200. The price of stock yesterday was
$160 and $150 for today. Many pp think that B will be more upset but in fact both of them
loss THE SAME.
? Regret avoidance: pp blame themselves more for unconventional choices that turn out
badly so they avoid regret by making conventional decisions.
i.e: If investor wants to sell one of two assets: 1 good - earned for investor, 1 bad - lost.
People tend to choose to sell the GOOD one. In fact, whichever choice they make, it��s the
same. Hence, {
?? ???? ??????? ??? ???? ? ???? ?? ?????? ??? ????
?????? ????? ?? ???, ????? ????? ?? ????

? Reference point: is not always the purchase price. For example, u bought a stock at
$100. The year end, it worth $150. But the 6 months later, it worth $125. So, u will see $25 as
gain or loss?
? House-money effect: investor attitudes to risk change as their gains or losses changes
i.e: with a fair coin u will win or lose $20. But if additional info that 5 previous tosses u won
each time. Most people tend to take the bet.
? Snake bites & breaking even: Loser tends to avoid further risk. But sometimes having
big lost >> try to break even. :-ss
? Memories: is not a recollection of FACTS, but a recollection EMOTIONAL
experience. For instances, u bought 2 stocks, one is declines gradually to value of $75,
another rises for most of year and then plummet at the end at $80 �� B will be considered the
most painful. In fact, the B��s value still higher than A.
? Mental accounting: is a specific form of framing in which people segregate certain
decisions.
i.e: buying machine and pay later on, and pay in advance for the trip. Thus, # situations, #
decision.

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9. Basel II PresentationElly Quan (Quan Thi Hanh Mai)

BEHAVIOR FINANCE

1. BEHAVIOR FINANCE * Def: models of financial market that emphasize potential implications of psychological factors affecting investor behaviors. * Irrationalities fall into 2 categories { ???? ??????? ??? ????????? ????? ???? ?????????????? ?????????? ???????? * INFO PROCESSING 1. Forecast errors: pp give too much weight to recent experience compared to prior beliefs when making forecasts and tend to make forecast that are too extreme given uncertainty inherent in their info. i.e: a fair die with 3 outcomes are 6 >> whatever it is, the probability for each still is 1/6 2. Overconfidence: pp tend to overestimate the precision of their beliefs or forecast, and they tend to overestimate their abilities. It normally results from the illusion of knowledge. i.e: rank u in how well ur English? 3. Conservatism: investors are too slow in updating their beliefs in response to recent evidence. They under react to news about the firm, so the price reflects the new info gradually �� rise to MOMENTUM in stock market return. 4. Sample size neglect and representativeness: pp are too prone to believe that a small sample is representative of broad population and infer patterns too quickly. * BEHAVIOR BIASES ? Expectancy theory: behavioral theory that investor utility depends on gains or losses from starting point, rather than on their levels of Wealth i.e: Investor A bought stock at $100, and B bought at $200. The price of stock yesterday was $160 and $150 for today. Many pp think that B will be more upset but in fact both of them loss THE SAME. ? Regret avoidance: pp blame themselves more for unconventional choices that turn out badly so they avoid regret by making conventional decisions. i.e: If investor wants to sell one of two assets: 1 good - earned for investor, 1 bad - lost. People tend to choose to sell the GOOD one. In fact, whichever choice they make, it��s the same. Hence, { ?? ???? ??????? ??? ???? ? ???? ?? ?????? ??? ???? ?????? ????? ?? ???, ????? ????? ?? ????

2. ? Reference point: is not always the purchase price. For example, u bought a stock at $100. The year end, it worth $150. But the 6 months later, it worth $125. So, u will see $25 as gain or loss? ? House-money effect: investor attitudes to risk change as their gains or losses changes i.e: with a fair coin u will win or lose $20. But if additional info that 5 previous tosses u won each time. Most people tend to take the bet. ? Snake bites & breaking even: Loser tends to avoid further risk. But sometimes having big lost >> try to break even. :-ss ? Memories: is not a recollection of FACTS, but a recollection EMOTIONAL experience. For instances, u bought 2 stocks, one is declines gradually to value of $75, another rises for most of year and then plummet at the end at $80 �� B will be considered the most painful. In fact, the B��s value still higher than A. ? Mental accounting: is a specific form of framing in which people segregate certain decisions. i.e: buying machine and pay later on, and pay in advance for the trip. Thus, # situations, # decision.

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BEHAVIOR FINANCE

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