Contrib. 1c3

Behavioural finance: will it last or is it a fad?

Behavioural finance began, in essence, with the publication of De Bondt and Thaler's
paper, directly challenging the EMH: "Does the Stock Market Overreact?" in 1985,
i.e. 16 years ago.

Although no history of BF would be complete without giving full credit to the
psychologists

Daniel Kahneman and Amos Tversky for "Prospect Theory: An Analysis of
Decision Under Risk" (1979).(*)

So it's not /that/ new.

Also - of possible significance for BF life span (**) - the popularity of technical
analysis does not appear to have diminished over the years.

Conversely, the January effect and the small-firm effect seem to have
disappeared already.

However, I consider most behavioural traits to be fairly simple.

Any footprint could, however, be complicated by (for example) a combination
of over and under-reaction over various time scales.

Overconfidence -- which  leads to excessive trading volume and bubbles --
is unlikely to diminish.

 

Year: 1970 - Efficient Markets Hypothesis (EMH) Even if a group of investors behave irrationally (i.e. relative to the fundamental value) en masse and in a consistent manner - then the rational traders will immediately arbitrage the price back to the fundamental value. Year: 2010 - Behavioural Finance Hypothesis (BFH) Even if a group of investors behave rationally (i.e. relative to the fundamental value) en masse and in a consistent manner - then the behavioural traders will immediately arbitrage the price back to the behavioural finance value.

What's wrong with the symmetry implied in the above?

The attraction of the Random Walk Hypothesis (RWH) is that it is the only *stable* stochastic solution. If everyone knew the fluctuations were a random walk, the fluctuations would still be a random walk.

(*) Daniel Kahneman was awarded the Nobel prize of economics in 2002,

      with a mention given to Amos Tversky, deceased a few years before.

(**) See some interesting debates on the future roles and shapes expected
       for BF, titled

"Why this lull in BF?" started on March 2004 at

       http://finance.groups.yahoo.com/group/Behavioral-Finance/message/6271

 "Classical BF vs. neo BF" started on May 2004 at

        http://finance.groups.yahoo.com/group/Behavioral-Finance/message/6321

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