By Albert Phung
According to conventional financial theory, the world and its participants are, for the most part, rational "wealth maximizers". However, there are many instances where emotion and psychology influence our decisions, causing us to behave in unpredictable or irrational ways.
Behavioral finance is a relatively new field that seeks to combine behavioral and cognitive psychological theory with conventional economics and finance to provide explanations for why people make irrational financial decisions.
By the end of this tutorial, we hope that you'll have a better understanding of some of the anomalies (i.e., irregularities) that conventional financial theories have failed to explain. In addition, we hope you gain insight into some of the underlying reasons and biases that cause some people to behave irrationally (and often against their best interests). Hopefully, this newfound knowledge will give you an edge when it comes to making financial decisions.
(For related reading, see Taking A Chance Of Behavioral Finance and Leading Indicators Of Behavioral Finance.)
Behavioral Finance: Background
InvestingModern portfolio theory and behavioral finance represent differing schools of thought that attempt to explain investor behavior. Perhaps the easiest way to think about their arguments and positions ...
InvestingRational behavior guides the decision-making process toward choices that maximize an individual’s benefit.
InvestingHuman beings often act irrationally when it comes to business decisions. Behavioral finance explains the difference between what we should do and what we do.
InvestingInvesting, just like our day to day activities, is primarily driven by our behavioral patterns and general thought processes.
InvestingWe take a closer look at the theories that attempt to explain and influence the market.
InvestingFinance is the study of banking, leverage, credit, capital markets, money and investments, along with how they are used by individuals and companies.
InvestingHas your financial advisor talked to you about the factor that makes or breaks financial success?