s1-introduction to bf and books

8/7/2019 S1-Introduction to BF and Books

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BEHAVIORAL FINANCE

Session 1


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The most difficult subjects can b

explained to the most slow witte

man if he has not formed an idea

them already; but the simplest

thing cannot be made clear to th

most intelligent man if he is firml

persuaded that he knows alreadwhat is laid before him

Leo Tolstoy, 1897

Thought for the day


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It is not so much what you hav

to learn if you accept weirdtheories, its what you have to

unlearn

Isaac Asimov


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The illiterate of the 21st century

will not be those who cannotread and write, but those who

cannot learn, unlearn and

relearn

Alvin Toffler


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Consider the history of high

jump. First the scissors style

technique was used (much

like hurdling)

Winning depended on being

the best at that technique


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The western roll was the

style for 25 years untilsomeone changed the

rules again introducing

the straddle, (or

eastern roll).

High jumpers launched

and landed on oppositefeet and faced the bar


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In the 1968 Olympics,

former gymnast DickFosbury broke the

Olympic record by

three inches, creating

a third, discontinuous

change.

The Fosbury flop involved a straight approach,

jumping with both feet and twisting the body 180

degrees, like a gymnast, looking away from the bar


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Dick Fosbury


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These nonlinear shifts exemplify innovative

thinking. Each transformed the high-jump

industry.

In each case, the inventive high jumpers were not

just managing the present, they were creating the

future.


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The objective of this class is to

change the way you think and

make decisions


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You have all spent five

trimesters as one class, and

have had a chance to know

your classmates quite well


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Think for a moment that I gave

you the right to buy 10% of oneof your classmates for the rest

of his or her lifetime


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You have to pick someone who

will do well on his or her ownmerit

(not the one with the rich dad !)


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If I gave you one hour to make

your choiceWho would you choose?


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Would you pick the one with the

highest IQ

Or

The one with the best grades ?

Or

The most energetic one ? The one

who displays the highest initiative ?


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Now, who would you choose ifyou were to go 10% short on


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IQ, grades ?

Or

Dishonest, irritating ?


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If you make a list ofqualities that

you like and dont like, what do

you notice ?


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We can get rid of the qualities thatwe dont like and improve on the

ones that we like

Easier to get rid when you are

younger


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Most behavior is habitual


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The chains ofhabit are too light to

be felt until they are too heavy to be

broken.


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Investing is not a game where the guy wit

the 160 IQ beats the guy with the 130

IQOnce you have ordinary intelligence,what you need is the temperament to

control the urges that get other people int

trouble in investing.Warren Buffett


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The brain can bedeveloped just the same

way as the muscles can

be developed, if one will

take the pains to train

the mind to think

Thomas Alva Edison


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So, what is

behavioral finance ?


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Behavioral Finance emphasizes amulti-disciplinary approach


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Multi disciplinary approach

Many an academic is like the trufflehound, an animal so trained and bred for

one narrow purpose that it is no good at

anything else Charlie Munger


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You will be a better investor,

executive, parent, friend

person if you approach

problems from a

multidisciplinary approach

Michael J Mauboussin


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"The principal enemies

of the equity investor

are expenses andemotions."

Warren Buffett


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1

Ah, the price isgoing up, lets

watch the market

3

Good thing Ididnt wait!

2

The trend is holding- Ill buy at the next

consolidation

6

OK, lets wait for it to recover-otherwise this will have to be a

really looooong-term investment

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Enough! Im selling out!And staying out

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Good thing I soldeverything!

4

Ill use this correctionincrease my position . . .

5

Ouch. As soon as itgoes back up, Imselling out!

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Its going totank again anyway

12Drat! Ill buy in again. Its

cheaper than last timeanyhow

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What the hell???

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This is it! I knew thiswas going to happen

all along!


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Behavioral economics uses many of the sametools and frameworks as standard economics

Assumes individuals have well-defined objectives,

that objectives and actions are connected, and

actions affect well-being

Relies on mathematical models

Subjects theories to careful empirical testing


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Important difference is use of experiments using

human subjects

Behavioral economists tend to use experimental

data to test their theories rather than drawing

data from the real world


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Advantages of Experiments

Easier to determine whether peoples choices areconsistent with standard economic theory by rulingout alternative explanations

Often easier to establish causality

Researchers can double-check their assumptions and

conclusions by testing and debriefing subjects

Often possible to obtain information that isntavailable in the real world


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Disadvantages of Experiments

Decisions made in the lab differ from decisions madein the real world

Introduce influences on decision-making that arehard to measure or control

Strong evidence that subjects often try to conform to whatthey think are the experimenters expectations

Most subjects are students, thus not representative

of the general population Also inexperienced at making economic decisions

Scale of any given experiment is limited by theavailable resources


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Evaluating Behavioral Evidence

Critical questions about behavioral research thatappears inconsistent with standard economictheory:

Is the evidence convincing? Was the experimentwell-designed?

Is the observed behavioral pattern robust?

What are the possible explanations? Can we

reconcile this with standard theory?

If theory appears to fail in a significant situation,how should we modify the theory?


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The phrase behavioral economics appears

to be a pleonasm. What non-behavioral

economics can we contrast with it? Theanswer to this is found in the specific

assumptions about human behavior that

are made in neoclassical economictheoryHerb Simon


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There are three fundamental assumptions in

neoclassical economics:

1) People are rational.

2) Individuals and firms maximize utility orprofit.

3) Individuals behave independently and

with full information.


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Assumption of Behavioral Economics

Bounded rationality (including bounded attention)

Bounded willpower

Bounded Self interest

Bounded markets


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Books


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Richard Thaler


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James Montier


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Daniel Kahneman


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Robert Cialdini


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Michael J Mauboussin


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George Soros


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Peter Ubel


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Charles Munger


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James Surowiecki


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Robert Shiller


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Dan Ariely


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Leonard Mlodinow


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Quiz Question

What was unique / special about the

Nobel Prize of Economics awarded in the

year 2002

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