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Behavioral Finance

Behavioral Finance. Economics 437. Announcements. Prof Burton speaking at noon at Farmington on Tuesday, April 22 nd …. Picnic at Prof Burton’s – Sunday, April 20 th , near Foxfield, Noon to 3 PM Next midterm is April 15 th (Tuesday). So, where are we?. Fama-French, 1992

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Behavioral Finance

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  1. Behavioral Finance Economics 437

  2. Announcements • Prof Burton speaking at noon at Farmington on Tuesday, April 22nd…. • Picnic at Prof Burton’s – Sunday, April 20th, near Foxfield, Noon to 3 PM • Next midterm is April 15th (Tuesday)

  3. So, where are we? • Fama-French, 1992 • Focus on BE/ME (and ME) • They conclude that there are unknown “risk” factors • Behavioralists conclude the EMH is false • DeBondt & Thaler, 1984 (“Mean Reversion”) • Based upon 5 year periods • Buy “losers” Sell “winners” • Earn 25 % net….mostly on the purchase of “losers” • Dubbed “overreaction” or “mean reversion” • Jagedeesh & Titman, 1993 (“Price” momentum) • 3 to 12 month periods • Buy “winners” Sell “losers • Average gain of “zero cost portfolio” is 1 % per month • Chordia & Shivumkar (Earnings momentum subsumes price momentum) • 9 percent per month • Negative January effect • Scott & Murillo “Rational Part of Momentum,” 2008 • “Informed investors” buy early • Prices “predict” future increases in fundamental value

  4. Sadka, “Momentum & Liquidity Risk,” 2006 • Central issue: Can you explain earnings and price momentum by “liquidity” • Less liquid stocks earn a “liquidity premium” • Liquidity is a “priced” factor • Biggest problem • Empirical definition of liquidity • Data mining potential

  5. Kothari, Lewellen & Warner: “Stock Returns, Aggregate Earnings Surprises, and Behavioral Finance • Does momentum hold in the “aggregate” • If not, somehow it is not as important, according to authors • Requires further explanation as to why aggregate behavior differs from “micro” behavior • Argues that changes in “discount rate” may be more important than “earnings surprises”

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