COMMERCE 3FA3 Chapter Notes - Chapter 26: Loss Aversion, Confirmation Bias, List Of Fallacies
10 Feb 2018
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Chapter 26: behavioural finance: implications for financial management. Behavioural finance: the area of finance dealing with the implications of reasoning errors on financial decisions. Three main categories of errors: (1) biases, (2) framing effects, and (3) heuristics. Three particularly relevant biases: (1) overconfidence, (2) overoptimism, and (3) confirmation bias: overconfidence. Overconfidence: the belief that your abilities are better than they really are. The belief that you can forecast the future with precision is a common form of overconfidence. Overconfidence by investors would cause them to overestimate their ability to pick the best stocks, leading to excessive trading: overoptimism. Overoptimism: taking an overly optimistic view of potential outcomes. In a capital budgeting context, overly optimistic analysts will consistently overestimate cash flows and underestimate the probability of failure: confirmation bias. Confirmation bias: searching for (and giving more weight to) information and opinion that confirms what you believe rather than information and opinion to the contrary.
