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Behavioral Finance

Behavioral Finance. Economics 437. Final Examination – Monday May 7 th at 2PM. Reforming Corporate Governance. Sarbanes-Oxley (?), Dodd-Frank (?) Shareholder Initiatives ISS (Institutional Shareholder Services) Burton Proposals One long term for directors (no renomination)

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Behavioral Finance

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  1. Behavioral Finance Economics 437

  2. Final Examination – MondayMay 7th at 2PM

  3. Reforming Corporate Governance • Sarbanes-Oxley (?), Dodd-Frank (?) • Shareholder Initiatives • ISS (Institutional Shareholder Services) • Burton Proposals • One long term for directors (no renomination) • Paid only in “deferred” stock – no cash • Forbidden to sell stock while director • Sell only after two year period elapsed since director

  4. Summing Up “Behavioral Finance” • It is important to realize that we are at an early stage of research into behavioral finance. This is not a “finished” subject and we have much to learn • Also, remember that most of behavioral finance applies systematic analysis to ideas that had long floated around in the world of trading and investment

  5. The Overriding Theme (based upon Kahneman-Tversky research) • Economic actors (individuals, firms) do not “behave” like academic theory has, heretofore, presumed • Why? • They Use Heuristics (short cuts, rules of thumb) • They Have Biases • Endowment effect • Status Quo effect • Over-optimism • Over-reaction; Under-reaction • “Expert Opinion” Bias • “Process” Bias • Myopia • Misweighting probabilities • They don’t perceive problems accurately • Framing • Representativeness • Small sample volatility misperception • Randomness misperceptions • The have exaggerated utility losses from “losses” • Known as loss aversion (not the same thing as “risk aversion”

  6. Significance? • Markets may, in fact, be “predictable” as has long been claimed by traders and investors • EMH may well be false in some of its predictions • Booms and busts may be endemic features of financial markets • Justification (?) for hedge funds

  7. Related Research That is not strictly “Behavioral Finance” • Game Theory • Especially “principle-agent” problems • Corporate Governance problems • Money managers underperformance • Random Other Observations • Risk aversion may not be good for your financial health (maximizing expected return leads to better outcomes generally)

  8. Final Exam Coverage • “Structure” of the final is similar to that of the two mid-terms • Approximately • 50 percent from material taken up since the 2nd mid term • 25 percent from material covered by each mid term • Written to consume two hours • Covers all reading and all lectures (except current events – e.g. European sovereign debt)

  9. Topics • Efficient Markets vs Behavioral Finance • Noise Trader Theory • Shleifer – key article • How can two assets with identical “fundamentals” trade at different prices • Anomalies • Serial Correlation Literature • F-F, D-T, and J-T • Others

  10. The End

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