BEHAVIORAL FINANCE

3 PS OF INVESTMENT MANAGEMENT

Prices

Probabilities

Preferences

DESCARTES' ERROR: EMOTION, REASON,

AND THE HUMAN BRAIN

EXPERIMENTS BEHAVIORAL BIAS

Kahneman & Tversky (1979) - 2 investment

opportunities, A & B:

A yields sure profit of $240k

B yields $1 mil with 25% probability & $0 with

75% probability

EXPERIMENTS BEHAVIORAL BIAS

Kahneman & Tversky (1979) - 2 investment

opportunities, C & D:

C & D:

C yields sure loss of $750k

D yields $0 with 25% probability & $1 million

loss with 75% probability

DUTCH BOOK

Take opposite sides of both bets. Putting $50

on B1 and $25 on B2, you can expect always a

$25 profit

Set of beliefs: There is a 50 percent probability that

E will occur, and a 75 percent probability that E will

not occur. Say, based on these probabilities that

individual can take both these two bets

AMH - the new EMH

Individuals act in their own self-interest.

Individuals make mistakes.

Individuals learn and adapt.

Competition drives adaptation and innovation.

Evolution determines market dynamics.

COMING OF AGE OF BEHAVIORAL FINANCE

Source: http://www.econ.yale.edu/~shiller/behfin/index.htm

SOME POPULAR BEHAVIORAL BOOKS