The Theory Of Behavioral Finance - 2911 Words

1. Introduction Efficient market hypothesis had been a topic of significant interest to the academicians, practitioners and the corporate executives for a long period. Under Eugene Fama’s(1965) survey, it is reflected that there is a turning point of the modern finance by efficient market hypothesis. However, there had been a shift in the focus to the theory of behavioral finance (Shiller, 2003) recently. Behavioral finance is the financial structure which supplements various parts of finance (Gallagher, 2003). It is the module which supports and displays the behavior of the investment managers and assists in the overall process of management. Therefore, behavioral finance is a unique art which is required to be selected in order to understand the outcomes of interactions between the investment managers and the corporates. Given this background, this essay examines how the behavioral finance has challenged the efficient market hypothesis and the implications of behavioral finance for investme nt managers. 2. Definition and concept of efficient market hypothesis According to Eugene Fama’s (1970), with the rise in the information, there is rapid spreading of the information which is immediately incorporated in the security prices. This is called the efficient market hypothesis and it is associated with â€Å"random walk† theory. The random walk theory which suggests the randomness of changes in a series of price forms the basis of efficient market hypothesis. Thus, theShow MoreRelatedIn the modern finance theory , behavioral finance is a new paradigm , which seeks to appreciate and1000 Words   |  4 PagesIn the modern finance theory , behavioral finance is a new paradigm , which seeks to appreciate and expect systematic financial market influence of psychological decision making ( Olsen R A, 1998). In the recent studies irrationality in the decision making was revealed , based on certain cognitive limitations. The present chapter is divided into two aspects According to traditional models in finance and economics, human beings are rational while taking their decision. However the recent studies explainRead MoreTheory Of Behavioral Finance : An Investor Sentiment Index And Quantify Its Impact On Stock Prices Essay1111 Words   |  5 Pagesdividends as efficient market model says, but also by factors such as the investor sentiment. Baker Wurgler (2007) construct an investor sentiment index and quantify its impact on stock prices. Despite their important contribution to the theory of behavioral finance, their conclusions are subject to debate. The main objective of this article is to summarize, evaluate, and offer a critical view on the paper of Baker Wurgler (2007). The first section presents a review of article, the second discussesRead MoreBehavioral Finance And Its Effects On The Economy1180 Words   |  5 PagesIntroduction Throughout the history of finance mankind has devised various ways to predict future costs, price changes, changes in supply and demand, and changes to bond and stock prices. We’ve created sophisticated models and formulas to help us make financial decisions. Although, we can’t always prepare for the inevitable depression, inflation, stock bubble bursts, long or short term shocks to the economy, and changes in taste, we can try our best to protect ourselves financially from our own irrationalRead MoreA Survey of Behavioral Finance Summary1332 Words   |  6 PagesA Survey of Behavioral Finance Nicholas Barberis and Richard Thaler In this handbook, Barberis and Thaler define the differences between traditional finance and behavioral finance. Traditional finance is rational.Rationality means two things; correct Bayesian Updating and choises consistent with expected utility. On the other hand behavioral finance assumes that market is not fully rational and analyzes the facts when the some of the princibles are loosen up. ThisRead MoreA Survey of Behavioral Finance Summary1322 Words   |  6 PagesA Survey of Behavioral Finance Nicholas Barberis and Richard Thaler In this handbook, Barberis and Thaler define the differences between traditional finance and behavioral finance. Traditional finance is rational.Rationality means two things; correct Bayesian Updating and choises consistent with expected utility. On the other hand behavioral finance assumes that market is not fully rational and analyzes the facts when the some of the princibles are loosen up. This essayRead MoreCapital Budgeting II And Efficient Markets1418 Words   |  6 PagesCapital Budgeting II Efficient Markets I The theory of market efficiency states that no arbitrage exists, prices fully reflect all available information, prices follow random walks and that active management does not add any value to a portfolio. The theories of risk adjustment, cost of capital and the capital asset pricing model rely on people being rational. Unless we have rational behavior, the assumptions of the EMH are not sustainable. While the wisdom and behavior of the market crowds seemRead MoreStudy Stock Market Trends : Ron Insana. Investments Don t Always Work As Planned On Wall Street1487 Words   |  6 PagesInvestors need to recognize the historical significance of a shift in the fundamental economic environment, as bubbles will continue to occur. The question is what will be the impact on the subsequent asset class that experiences bubble mania. Behavioral Finance and the psychology of investing – Greg La Blanc How can a bubble ever occur? For markets to be efficient, the only element that has to be true is that prices consistently reflect the information available at that time. However, bubbles areRead MoreThe Impact Of Psychology On Investment Decisions1232 Words   |  5 Pagesirregularity observed in financial markets in recent times has yet again brought to question the practical application of traditional financial theory and the Efficient Market Hypothesis. There is therefore the need to put this base of accepted finance theory under scrutiny. The foundation of one of the broadly examined problems with traditional financial theory is the effect of psychological influences on individuals’ behavior towards investment. According to Slovic (1972), Daniel, Hirshleifer ,SubrahmanyamRead MoreThe Mortgage Crisis And Stock Market Decline Essay1128 Words   |  5 Pagesis to evaluate the methods in which behavioral finance can be used to elucidate the mortgage crisis and stock market decline. There will be personages’ retorts, specifically investors in the stock market, evidential psychological biases, and a clarification of behavioral finance. In conclusion will be how I can use behavioral finance to overcome some of the psychological biases that ensue. The mortgage crisis in relation to behavioral finance Behavioral finance definitely can be a topic of an impactRead MoreFinance; The Efficient-Market Hypothesis1826 Words   |  7 PagesIntroduction Efficient-market hypothesis In finance, the joint hypothesis trouble, or the efficient-market hypothesis, states that financial markets are informational competent . Besides this, one cannot constantly achieve returns beyond average market income on a risk-adjusted basis, with the information obtainable at the moment the investment is complete. There are three main hypothesis versions: strong, semi-strong, and weak. The EMH weak form claims that rates on traded assets (e.g.,