Essex Business School
Undergraduate: Level 5
Sunday 17 January 2021
Friday 26 March 2021
25 June 2020
Requisites for this module
The 2002 Nobel prize winners in economics Daniel Kahneman & Vernon Smith did pioneering behavioural finance (BF) work on psychological biases and their impact on financial markets. For many years the Efficient Market Hypothesis (EMH) was assumed to be valid within the academic community and virtually all theoretical models were built on this premise. Despite this, many practitioners choose active investment strategies that are premised on markets being inefficient. To take two examples, momentum investors buy stocks that have recently increased in value while value investors seek to buy undervalued stocks.
In addition, there is increasing evidence of the existence of a wide variety of anomalies that represent an empirical challenge to the EMH. These include stock market bubbles and crashes, abnormal returns to non-risk factors, delayed reaction to financial news such as earnings announcements, overreaction and eventual corrections to measures of media tone and attention, and the apparent profitability of momentum and value strategies.
During the past two decades a new paradigm has developed within finance. Behavioural finance rejects two crucial assumptions of mainstream finance: these are the assumptions of homogeneous, fully rational (utility maximising) agents and unlimited arbitrage. It proposes a prospect theory framework to replace expected utility. Drawing from cognitive psychology, behavioural finance examines ways in which common cognitive biases and heuristics together with limits to arbitrage influence trading and stock prices.
In this module it will be shown how allowing for common human traits such as overconfidence, loss aversion, anchoring, framing, mental accounting, representativeness, etc., and limits to arbitrage give us a better understanding of financial markets and the trading strategies of investors.
The module aims to:
1. Provide a plausible alternative to the neoclassical financial model that underlies the efficient market hypothesis
2. Identify key cognitive biases and heuristics that influence investment behaviour and asset prices
3. Present some latest research relating to both the theoretical developments in the field of behavioural finance along with the related empirical evidence
4. Build a bridge between academic research and investment practice
On successful completion of the module, students will be able to:
1. Appreciate how prospect theory builds on and departs from expected utility theory
2. Understand the role of heuristics and biases in influencing asset pricing and investment behaviour
3. Understand the theoretical and empirical evidence for a variety of investment strategies based on the assumption of less than fully efficient markets
The module will help you with the following transferable skills:
1. Good appreciation of the workings of financial markets when investors are less than 100% rational e.g. they are subject to loss aversion
2. Ability to interpret empirical research results
3. Understanding of recent developments in finance such as Fintech and equity crowdfunding
This Module is normally delivered through:
2 hours of lectures per week
Weekly seminars from the second week of the module.
Problem sets will be given in advance for you to attempt before the class.
In academic year 2020-2021 the delivery is likely to be different and involve online learning.
- Ackert, Lucy F.; Deaves, Richard. (2010) Behavioral finance: psychology, decision-making, and markets, Mason, OH: South-Western/Cengage Learning.
The above list is indicative of the essential reading for the course. The library makes provision for all reading list items, with digital provision where possible, and these resources are shared between students. Further reading can be obtained from this module's reading list.
Assessment items, weightings and deadlines
|Coursework / exam
||In Class Test
||120 minutes during Summer (Main Period) (Main)
Module supervisor and teaching staff
Prof Jerry Coakley, email: email@example.com.
Vivek Nawosah & Jerry Coakley
Prof Christos Ioannidis
Available via Moodle
Of 34 hours, 32 (94.1%) hours available to students:
2 hours not recorded due to service coverage or fault;
0 hours not recorded due to opt-out by lecturer(s).
* Please note: due to differing publication schedules, items marked with an asterisk (*) base their information upon the previous academic year.
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