- Our Brain
- Mental Short Cuts
- What Is Behavioural Finance?
- Loss Aversion
- Disposition and Regret
- Information Processing
- Conclusion and Summary
Our brains are hard wired to take mental short cuts when we encounter complex activities such as managing our personal finance because we cannot handle and analyze the volume of information in front of us.
As a result, we make decisions based on part of the information available, rather than all the pieces needed to make the right decision.
There is one common assumption we often pride ourselves as rational when dealing with money related decision making. This assumption is false as researchers are able to explain that we are not rational and our “non-rational” behaviour falls into patterns and is somewhat predictable i.e. we are predictably normal individuals and are subject to make predictable cognitive mistakes.
Behavioural finance, a research based discipline, offers a better understanding of these “non rational behaviour” or mental short cut or behavioural biases that are ingrained in our human decision-making processes. It studies the psychology of financial decision-making that includes studies on how emotions such as greed and fear can affect investment decisions and stock markets; the role of mental shortcuts or biases in decision making, such as the use of simple rules of thumb for making complex investment decisions. In other words, behavioural finance takes the insights
of psychological research and applies them to financial decision making situations such as how investors become overconfident with respect to making gains and oversensitive to losses.
With some working knowledge of Behavioural Finance, we can avoid painful situations and be more effective in “staying the course” in our financial journey as well as can improve our overall investment experience by doing things that reduce our anxiety.
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