The Implications of Behavioral Finance

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Re: The Implications of Behavioral Finance

Post by parvus »

:rofl:
Really. We need one theory! Impervious to paradigm shift!! Isn't the whole concept of marginal utility a somewhat truncated version of social psychology!!! Isn't modern econometrics just another Ptolemaic epicycle?!!!

Thanks George, I enjoyed the laugh.

Physicists may search for a unified theory; they may well find it. For economists to search for a single theory of society is arrogant from the beginning and doomed to failure, since the calculations of individuals (such as they be) hardly warrant a calculus of society.

What we humble service workers in such fields as history, psychology and sociology provide -- we are the basic human sciences, and everything else is a subfield struggling for its own independent object of science -- is a way to drain the swamp of speculation, even if it is backed by the alchemist arithmetic of econometrics.

Any human science endeavour comes across the same three constraints: how we act, against what structures, armed with what knowledge.

You can't graph human behaviour on a blackboard and have it satisfy an economic question, not ohne rest or without remainder -- or the famous error term in statistical equations. Indeed, many economic laureates have been awarded prizes quite not for their examination of an economy, but for their contributions to sociology (Buchanan, Solow, Coase), psychology (Kahneman, Becker, Simon) or history (North, Fogel, Hayek, Myrdal).
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Re: The Implications of Behavioral Finance

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since the calculations of individuals (such as they be) hardly warrant a calculus of society.
What? No psychohistory and Seldon Plan? :wink:
Sic transit gloria mundi. Tuesday is usually worse. - Robert A. Heinlein, Starman Jones
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Re: The Implications of Behavioral Finance

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Yes, you got the point. In George's citation, there is a certain overreach. Economics doesn't just try to explain the economy (which it doesn't do very well anyway) but pretends to offer an explanation of society. Microeconomics, we are told, offers a solid footing. But it doesn't, it's just one more psychological approach amongst others, in this instance more in line with Skinner and Watson than the actual contingency of social affairs, including economic transactions.

So risk aversion becomes our Pavlovian dog. But you cannot, from risk aversion alone get the aggregation of individual actions into an effectual entity -- society/markets -- that in turn influences individual actions.

George has frequently referred to the failure of macroeconomics. I don't dissent. This is the classic problem in sociology: micro versus macro, structure versus action.

What I shall have to investigate is whether in George's citation the respondent wants one psychological backing to economics -- marginal utility pure and simple -- or instead wants to collapse psychology into the economy, such that, as with the French structuralists, your consumer behaviour is dictated by the system that you grew up in -- a system, of course, that only some economists know -- through their models.
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Re: The Implications of Behavioral Finance

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In George's citation, there is a certain overreach.
You will recall, I am sure, that even the Seldon Plan broke down with the birth of the Mule, requiring the intervention of the Second Foundation. :wink:

[The point being: watch out for stober; i.e discontinuities remain. :wink: ]
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Re: The Implications of Behavioral Finance

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But of course, I devoured all this Heinlein/Asimov/Pohl/Ellison stuff in my teens (along with Ayn Rand). Little did I realize that people established academic careers on it -- some getting Nobel prizes for it. :wink:
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Re: The Implications of Behavioral Finance

Post by Flaccidsteele »

Asimov's best short story: The Last Question

This is by far my favorite story of all those I have written.

After all, I undertook to tell several trillion years of human history in the space of a short story and I leave it to you as to how well I succeeded. I also undertook another task, but I won't tell you what that was lest l spoil the story for you.

It is a curious fact that innumerable readers have asked me if I wrote this story. They seem never to remember the title of the story or (for sure) the author, except for the vague thought it might be me. But, of course, they never forget the story itself especially the ending. The idea seems to drown out everything -- and I'm satisfied that it should.


https://filer.case.edu/dts8/thelastq.htm
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Re: The Implications of Behavioral Finance

Post by Shakespeare »

<OT>There is also Frederic Brown:

Fredric Brown - "Answer"</ot>
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Re: The Implications of Behavioral Finance

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Another book on the subject was recently published by Richard Thaler, Misbehaving: The Story Of Behavioral Economics. According to Michael Lewis in The Economist Who Realized How Crazy We Are - Bloomberg View
Michael Lewis wrote:There's now a fairly long list of intellectuals responsible for the spread of this subversive idea. Somewhere near the top of it is the economist Richard Thaler, who has just published an odd and interesting professional memoir, "Misbehaving." It's odd because it's funnier and more personal than books by professors tend to be. It's interesting because it tells the story not just of Thaler's career but also of the field of behavioral economics -- the study of actual human beings rather than the rational optimizers of classical economic theory.
Adding it to my summer reading list.
Thaler began to keep a list of things that people did that made a mockery of economic models of rational choice. There was the guy who planned to go to the football game, changed his mind when he saw it was snowing, and then, when he realized he had already bought the ticket, changed his mind again. There was the other guy who refused to pay $10 to have someone mow his lawn but wouldn't accept $20 to mow his neighbor's. There was the woman who drove 10 minutes to a store in order to save $10 on a $45 clock radio but wouldn't drive the same amount of time to save $10 on a $495 television. There were the people Thaler invited over to dinner, to whom he offered, before dinner, a giant bowl of nuts. They ate so many nuts they had no appetite for the far more appealing meal. The next time they came to dinner Thaler didn't offer nuts -- and his guests were happier.
Been there, done at least one of them. Guilty as charged.
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Re: The Implications of Behavioral Finance

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There was the other guy who refused to pay $10 to have someone mow his lawn but wouldn't accept $20 to mow his neighbor's.
Of course if you take both deals, you mow one lawn as you were planning to, and come out $10 richer. BUT I think people see both offers in isolation: (1) why pay someone to mow your lawn when you can do it yourself (I vaguely enjoy it myself if the weather is not too hot), and (2) hey, it's Saturday, I am not working for money today, the neighbor can mow his own *** lawn.
Been there, done at least one of them.
It was the nuts, wasn't it? :lol:
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Re: The Implications of Behavioral Finance

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There was the other guy who refused to pay $10 to have someone mow his lawn but wouldn't accept $20 to mow his neighbor's.
But that isn't the totality of the transaction. Add taxes, insurance and paper work for workers, time involved, etc.
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Re: The Implications of Behavioral Finance

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Or maybe the neighbour's lawn was 3 times bigger. :)
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Re: The Implications of Behavioral Finance

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Peculiar_Investor wrote:Another book on the subject was recently published by Richard Thaler, Misbehaving: The Story Of Behavioral Economics. According to Michael Lewis in The Economist Who Realized How Crazy We Are - Bloomberg View
Michael Lewis wrote:There's now a fairly long list of intellectuals responsible for the spread of this subversive idea. Somewhere near the top of it is the economist Richard Thaler, who has just published an odd and interesting professional memoir, "Misbehaving." It's odd because it's funnier and more personal than books by professors tend to be. It's interesting because it tells the story not just of Thaler's career but also of the field of behavioral economics -- the study of actual human beings rather than the rational optimizers of classical economic theory.
Adding it to my summer reading list.
Thaler began to keep a list of things that people did that made a mockery of economic models of rational choice. There was the guy who planned to go to the football game, changed his mind when he saw it was snowing, and then, when he realized he had already bought the ticket, changed his mind again. There was the other guy who refused to pay $10 to have someone mow his lawn but wouldn't accept $20 to mow his neighbor's. There was the woman who drove 10 minutes to a store in order to save $10 on a $45 clock radio but wouldn't drive the same amount of time to save $10 on a $495 television. There were the people Thaler invited over to dinner, to whom he offered, before dinner, a giant bowl of nuts. They ate so many nuts they had no appetite for the far more appealing meal. The next time they came to dinner Thaler didn't offer nuts -- and his guests were happier.
Been there, done at least one of them. Guilty as charged.
Great stuff.
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Re: The Implications of Behavioral Finance

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Peculiar_Investor wrote: 29 May 2015 08:23 Another book on the subject was recently published by Richard Thaler, Misbehaving: The Story Of Behavioral Economics. According to Michael Lewis in The Economist Who Realized How Crazy We Are - Bloomberg View
Michael Lewis wrote:There's now a fairly long list of intellectuals responsible for the spread of this subversive idea. Somewhere near the top of it is the economist Richard Thaler, who has just published an odd and interesting professional memoir, "Misbehaving." It's odd because it's funnier and more personal than books by professors tend to be. It's interesting because it tells the story not just of Thaler's career but also of the field of behavioral economics -- the study of actual human beings rather than the rational optimizers of classical economic theory.
Adding it to my summer reading list.
Finally got around to it during a recent vacation to the warmer weather of Maui. It is a very good window into behavioral economics. For those who still believe in the efficient market hypothesis, Thaler skewers that pretty well.
‘Misbehaving: The Making of Behavioural Economics’, by Richard Thaler | Financial Times wrote: Thaler recalls the example of 3Com, a stolid computer networking company that through a 1997 merger found itself in possession of Palm, maker of the Palm Pilot personal digital assistant. During the dotcom boom, this device was regarded with something of the awe more recently accorded to the iPhone, and companies such as Palm were routinely given stratospheric valuations. Yet the market capitalisation of 3Com failed to reflect this, even though it owned 100 per cent of the smaller company. When 3Com spun off a fraction of Palm in 2000, the shares rocketed — so spectacularly, in fact, that within days the infant company was more highly valued than the parent that still owned most of its business.

No financial theory of rational economic agents allows this to be even remotely possible. At one point the rump of 3Com, after its stake in Palm was stripped out, was being valued at minus $23bn in the market. Such a turn of events should have triggered anguished self-examination among those University of Chicago luminaries whose models assumed that the market price of a stock is always correct. Far from it — though the rearguard action prompted by Thaler’s criticisms added so many caveats to “efficient market theory” that it lost much of its force.
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Re: The Implications of Behavioral Finance

Post by hamor »

Thanks for bumping it up. I placed a hold on it in the library, will have a look at his other book too Nudge.
I started plowing through D Kahneman book Thinking, fast and slow, had it on e-reader for a while now...

One of the observations immediately applicable to myself is that deviating from a diet is a sign of depleted self-control :roll:
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Re: The Implications of Behavioral Finance

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I haven't read Nudge but some of the key concepts are covered in Misbehaving: The Story Of Behavioral Economics, particularly Chapter 33, Nudging in the U.K.
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Re: The Implications of Behavioral Finance

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I've read all these books and they are all good. I read many books. Khaneman's Thinking Fast and Slow is just about the best book I've ever read, and even better the second time. I'm looking forward to a third read some day soon.
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Re: The Implications of Behavioral Finance

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I agree that Kahneman's Thinking Fast and Slow is a great book. Probably the best book for DIY investors to start with. and to re-read from time to time.

I found Nudge very disappointing. But then, I find most of Cass Sunstein's books disappointing. They start out with lots of promise, which dissolves into generalities.

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Re: The Implications of Behavioral Finance

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I did end up reading Nudge: Improving Decisions About Health, Wealth, and Happiness, by Richard Thaler and did enjoy it and learned a bit more about myself and my investing habits and biases. That continues to be a work in progress.

Fast forward to today and one of my favorite blogs has a worthwhile read on the subject, Seeing Your Blind Spots | The Irrelevant Investor
Michael Batnick wrote:Anybody who has ever tried to beat the market knows that understanding psychology is just as important as understanding a business. You can know a company’s return on equity to the third decimal and what management likes to do with excess capital, but if you don’t understand prospect theory or confirmation bias, you’re missing the most important elements of what it takes to be a successful investor.

Studying investor psychology, however, is not enough, because the more we learn about it, the easier it is to become convinced that these foibles apply to other people and not to ourselves. You can read all the behavioral finance books in the world, but if you don’t apply this knowledge, you’re no better off than the investor who has never heard of Daniel Kahneman.
The conclusion of the article is also worth considering for anyone looking after their own investments
Michael Batnick wrote:The way we remember things is often very different from the way things happened. So one of the easiest ways to shine light on this blind spot and guard against it is to write things down. Whether you’re new to investing or are two decades in, keeping a physical record can be a good way to prevent being fooled by your future self.
I'm not totally diligent to track all my investment decisions, but I do write down most of the major ones. It is also somewhat useful (and can be scary) to review your posts on FWF to gain some insight into your past thoughts and behaviors. Often looking back at my posting history reveals how much I've learned from others here on FWF.
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Re: The Implications of Behavioral Finance

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Peculiar_Investor wrote: 19 Feb 2018 15:01 I'm not totally diligent to track all my investment decisions, but I do write down most of the major ones.
Going through all my (PDF) trade confirmation slips is one way to look through the rear view mirror. Some learnings there for sure, both positive and negative.
It is also somewhat useful (and can be scary) to review your posts on FWF to gain some insight into your past thoughts and behaviors.
OMG! No, please no..... :shock: :lol:
Often looking back at my posting history reveals how much I've learned from others here on FWF.
I have done that some, and agree with you, but it is kind of a hopeless task for me....
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Re: The Implications of Behavioral Finance

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Another good read from Daniel Kahneman, Daniel Kahneman: Four Keys to Better Decision Making | CFA Institute Enterprising Investor
“Optimism is the engine of capitalism,” Kahneman said. “Overconfidence is a curse. It’s a curse and a blessing. The people who make great things, if you look back, they were overconfident and optimistic — overconfident optimists. They take big risks because they underestimate how big the risks are.”

But by studying only the success stories, people are learning the wrong lesson.

“If you look at everyone,” he said, “there is lots of failure.”
IMHO that is very practical advice. I know I've probably learned more from my failures than from my successes.
“It’s very difficult to imagine from the psychological analysis of what expertise is that you can develop true expertise in, say, predicting the stock market,” he said. “You cannot because the world isn’t sufficiently regular for people to learn rules.”

That doesn’t stop people from confidently predicting financial outcomes based on their experience.

“This is psychologically a puzzle,” Kahneman said. “How could one learn when there’s nothing to learn?”

That sort of intuition is really superstition. Which means we shouldn’t assume we have expertise in all the domains where we have intuitions. And we shouldn’t assume others do either.

“When somebody tells you that they have a strong hunch about a financial event,” he said, “the safe thing to do is not to believe them.”
Buy and sell recommendations and price targets from analysts immediately come to mind. I'm sure there are many other examples as well.

In the rest of the article Kahneman proposed four simple strategies for better decision making that can be applied to both finance and life. I won't spoil them for others, just follow the link and read the article.
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Re: The Implications of Behavioral Finance

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Ben Carlson recommends the book Big Mistakes: The Best Investors and Their Worst Investments which just came out.

http://awealthofcommonsense.com/2018/06 ... -mistakes/

I requested it at the library. Sorry did this come up before?
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