Behavioural Finance
Dr. Gabriele Lepori Email:g.m.lepori@soton.ac.uk Office: room 5014 in Building 2
Classification of behavioural biases; Pride and
regret; Risk perception and preferences
Week 5
• See Chapters 3 & 4 in “The psychology of investing”
by J. R. Nofsinger.
2
≠ • Our brain frequently processes information through
shortcuts and emotional filters to shorten analysis time.
• We’ll call these shortcuts and filters “behavioural biases”.
• One way to categorise such biases is by source:
– (1) Cognitive biases
– (2) Emotional biases
– (3) Social biases
Behavioural Biases
3
• (1) Cognitive biases
– Self-deception
• People think they’re better than they really are and
downplay information contradicting this view.
– Abilities, precision of estimates, knowledge, control, etc
– Heuristic simplification
• Our cognitive resources are constrained,
so our brain finds a way to simplify
complex decisions.
– Limited memory, limited attention & processing power
Behavioural Biases
4
• (2) Emotional biases
– Current mood • Impact on optimism/pessimism, people’s estimates, and people’s
risk preferences.
– Anticipated feelings about result of a decision • How we think we will feel in response to outcome of a decision
becomes an input in the decision.
• (3) Social biases – Human interaction & peer effects
• People share information.
• People take opinions and emotions of others
into account when making decisions.
Behavioural Biases
5
• Classification of the biases discussed in this module:
– Note: sometimes the distinction is not clear-cut and a bias may fall into more than one category.
Behavioural Biases
Cognitive Emotional Social
Self-deception: Loss aversion Peer effects
• Overconfidence Pride and regret Herding
• Illusion of knowledge House money effect
• Illusion of control Snakebite effect
• Cognitive dissonance Status quo bias
• Self-attribution bias Current mood
Heuristics:
• Framing
• Anchoring
• Mental accounting
• Representativeness
• Familiarity 6
Jermaine Byrant
Nicole Johnson
OVER
RATING
YEARS
