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Behavioral Finance and Traditional Finance

In: Demystifying Behavioral Finance

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  • Kok Loang Ooi

    (University of Malaya)

Abstract

This chapter rigorously assesses the contrast between conventional finance theories, including the efficient market hypothesis (EMH), and the tenets of behavioral finance. It analyses the constraints of traditional assumptions of rationality and market efficiency in elucidating phenomena such as the January effect, days of the week effect, and reversals. These persistent anomalies undermine the premise that market prices consistently represent basic values. This chapter emphasises the foundational contributions of behavioural finance pioneers, including Daniel Kahneman, Amos Tversky, and Richard Thaler, who established ideas like as prospect theory, heuristics, and the disposition effect. The chapter uses case studies, including Black Monday, to illustrate how biases like as loss aversion, overconfidence, and herd behaviour propel irrational decision-making in times of market distress. Empirical data contrasts conventional finance’s dependence on mathematical models with behavioural finance’s emphasis on cognitive and emotional factors. The chapter finishes by promoting a more holistic approach to comprehending market behaviour, recognising the interaction between rational decision-making models and the psychological inclinations that influence investor behaviours.

Suggested Citation

  • Kok Loang Ooi, 2024. "Behavioral Finance and Traditional Finance," Springer Books, in: Demystifying Behavioral Finance, chapter 0, pages 39-56, Springer.
    • Handle: RePEc:spr:sprchp:978-981-96-2690-8_3
    DOI: 10.1007/978-981-96-2690-8_3
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