Generalized Behavioral Asset Pricing Model
-- Adam Szyszka
Behavioral finance is an area that focuses on investors' behavior and decision making process in order to understand the
anomalous pricing of assets. It has emerged as a response to the difficulties faced by the traditional financial theory in explaining some
financial phenomena. Contrary to the classical paradigm, behavioral finance assumes that agents may be irrational in their reactions to
new information and investment decisions. The sources of irrationality are: psychological biases and heuristics of the human mind. As
a result, the market will not always be efficient and asset pricing may deviate from predictions of traditional market models. This
paper presents the Generalized Behavioral Model (GBM) that describes how asset prices may be influenced by various behavioral
heuristics and how the prices may deviate from fundamental values due to investors' irrational behavior. The GBM model distinguishes
three behavioral variables that are linked to errors in understanding and transforming information signals, problems with
representativeness, and unstable preferences. The ultimate scale of behavioral mispricing depends on a measure
A—the ability of the market's self-correction. The discussion on factors influencing each of the model's variables is presented and illustrated with examples. The
model is capable of explaining a vast array of market anomalies, including market under- and overreaction, continuations and reversals
of stock returns (momentum and contrarian strategies), high volatility puzzle, small size and book-to-market effects, calendar
anomalies, and others. The study concludes with a discussion on the model's advantages and limitations, as well as directions for
future development and research.
© 2009 Adam Szyszka. All Rights Reserved.
Does Irrationality in Investment Decisions
Vary with Income?
-- Manish Mittal and R K Vyas
It has been well established that investor behavior and asset price deviate from the predictions of simple rational models.
The proponents of behavioral finance believe that investment decision making is not a completely rational process. Individuals'
investment decisions are guided by their desires, goals, prejudices and emotions. Gender, age, income, education, wealth and marital status
of individuals also influence their investment decisions. This paper investigates how income of individual investors affects their
investment decisions and their tendency to be influenced by some commonly exhibited behavioral
biases. The study employs primary data
collected from a sample of 428 investors with the help of a structured questionnaire. The survey was carried out in Indore city during
July-October 2006. The results indicate that Indian investors are prone to behavioral biases during their investment decision making
process. Income was found to be a significant factor impacting the overconfidence level, tendency to overreact and loss/regret avoidance,
but has no significant effect on self-attribution bias, framing effect, and tendency to use purchase price as reference point.
© 2009 IUP. All Rights Reserved.
Psychological Aspects of Market Crashes
-- Patrick Leoni
This paper analyzes the sensitivity of market crashes to investors' psychology in a standard general equilibrium framework
with heterogenous beliefs. Contrary to the traditional view that market crashes are driven by large drops in aggregate endowments,
this analysis shows that: (1) The magnitude of the crash is an increasing function of the lower bound of individual anticipations
about endowments drop, provided that the anticipations are significant enough; and (2) No crash occurs regardless of the endowments
drop, when those anticipations are small.
© 2009 IUP. All Rights Reserved.
Individual Investors' Trading Behavior
and the Competence Effect
-- Abhijeet Chandra
The paper analyzes the impact of competence of individual investors on their trading behavior in the stock market. Individual
investors are seen trading too frequently. This impacts their returns from their investments, their belief in the stock markets, and also
the functioning of financial markets to some extent. Investors with high level of competence tend to trade more frequently. While
some factors affect individuals' perception towards external issues, some affect their belief in themselves, which in turn, influences
their confidence and belief in their own judgment and decision making. This holds true in the context of investors in general and
individual investors in particular. Individual investors take trading decisions based on their self-perceived competence that is influenced by
several factors. The present study identifies the factors that determine individual investors' competence. The study examines the
trading behavior of individual investors by using a modified questionnaire. A survey of 250 individual investors across the
Delhi-NCR (National Capital Region) was undertaken to collect the primary data. The study uses a competence model to assess the
competence effect on trading frequency of individual investors. Based on the findings of the survey data, the study explores the individual
investors' trading behavior in the stock market.
© 2009 IUP. All Rights Reserved.
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