Spring 2017

Behavioral Finance

"A conventional valuation which is established as the outcome of the mass psychology of a large number of ignorant individuals is liable to change violently as the result of a sudden fluctuation of opinion due to factors which do not really make much difference to the prospective yield; since there will be no strong roots of conviction to hold it steady."
                         John Maynard Keynes, The General Theory of Employment, Interest, and Money

"Prediction is very difficult, especially about the future."
               Neils Bohr

"We've done a large number of experiments, some with substantial amounts of money at stake, in which it is clear that a large fraction of people are fair minded when it comes to dividing up things . . . The idea of selfishness as the prime motivator of the human species is over played. We're a complicated species."
                   Sam Bowles

Fast Track to Course Calendar

Tuesday & Thursday 11:30-12:45am
Skinner 216
Office hours: MW 8:30-10:30am

Satya J. Gabriel
Professor of Economics and Finance
e-mail: sgabrielatmtholyoke.edu
FAX: 413-538-2323

Course Description:

Neoclassical microeconomics makes a sizeable number of assumptions that are at odds with empirical observations. The efficient market hypothesis in finance is grounded in neoclassical microeconomics and argues in favor of market activity generating prices consistent with intrinsic value. In other words, neoclassical orthodoxy claims that markets get prices right. The course in behavioral economics and finance explores alternatives to the hypothesis of neoclassical microeconomics that homo sapiens are strictly rational (or that they make decisions based on rational expectations) and subsequently, through some time constant iterative process, generate correct market prices. Behavioral finance specifically explores the impact of psychology, uncertainty (which is not synonymous with risk) and the cognitive biases/forces that impact our decisions. Behavioral finance applies the scientific method (rejecting hypotheses for which there was no supporting evidence) to understand the impact of cognitive forces, including motivation, emotions, impulses, fear, regret, loss aversion, and genuine uncertainty upon financial market outcomes.

For each week of class, you will find readings on Moodle. Please do the assigned reading from the text and readings from Moodle to properly prepare for future lectures and exams.

Some financial data sources can be accessed from the course's own corporate finance hotlinks page. If you notice dead links or mistakes on the hotlinks page, please bring them to the attention of Professor Gabriel.

Course Objectives:

  • Gain an understanding of financial market anomalies
  • Gain an understanding of the differences between the neoclassical model of behavior and behavioral finance models.
  • Discover the impact of uncertainty on decision making and market movements.
  • Become comfortable engaging in discussion and debate over finance and related issues


Spring 2017

  • Text 
  • Primary Text:Ackert & Deaves, Behavioral Finance, which is hereafter referred to as "The Text."
  • Secondary Text: Richard Thaler, Misbehaving
  • Grading policy 
  • Course grades will be based on the total accumulation of points from three equally weighted sources: five quizzes, classroom discussion and participation in experiments, and final examination.  Note: Anyone who earns a grade of A on the quizzes and class participation will be exempt from the final. If you are required to take the final exam then it will be weighted at 1/3rd of your grade. Please note the grading scale.
  • Top five quizzes -- 33.334 percent of the final grade 
  • Class participation -- 33.333 percent of the final grade 
  • Final Examination -- 33.333 percent of the final grade 
  • Course calendar

    Jan. 24 Introduction to Economic Processes and Finance
    Jan. 26 Intro to Neoclassical Economics & Expected Utility Theory

    Ackert & Deaves, Behavioral Finance (henceforth referred to as The Text), chapter 1

    Jan. 31-Feb. 2 Capital Asset Pricing Model, Misconceptions about Market Efficiency, & Agency Theory

    Ackert & Deaves, The Text, chapter 2

    Discounted Cash Flow (DCF) is the most common method for valuation of assets, including the intrinsic value of a corporation.

    The components of a DCF analysis are:
    1. Estimates of future cash flows (and the growth rates in those cash flows),
    2. An estimate of a required return* (used as the discount rate in DCF analysis),
    3. Estimates of the time length of rapid growth periods,
    4. Estimates of the long-run growth rate after the rapid growth period,

    Note that the "dividend valuation model" referred to in the text is a special case of DCF analysis.

    CAPM is one method for estimating required returns. CAPM is grounded in the efficient market hypothesis and risk aversion. Evidence indicates that CAPM fails to provide an appropriate required return in DCF analysis.

    Feb. 7-9

    First Quiz: Feb. 9

    Prospect Theory, Framing, and Mental Accounting

    The Text, chapter 3

    Feb. 14-16 Anomalies, Noise Trading, & Limits to Arbitrage

    The Text, chapter 4

    Feb. 21-23 Heuristics and Biases,

    The Text, Chapter 5

    Feb. 28-March 2 Overconfidence:

    The Text, chapter 6

    March. 7-9

    Emotional Foundations:

    The Text, chapter 7

    March 21-23 Implication of Heuristics and Biases for Financial Decision-Making:

    The Text, chapter 8.

    March 28 Implications for Overconfidence for Financial Decision-Making:

    The Text, chapter 9

    March 30 Individual Investors and the Force of Emotion

    The Text, chapter 10

    April 4 Social Forces: Selfishness or Altruism?

    The Text, chapter 11

    April 6

    Social Forces at Work: The Collapse of an American Corporation

    The Text, chapter 12

    April 11

    Behavioral Explanations for Anomalies:

    The Text, chapter 13

    April 13

    Do Behavioral Factors Explain Stock Market Puzzles?

    The Text, chapter 14

    April 18 Rational Managers and Irrational Investors,

    The Text, chapter 15.

    April 20 Behavioral Corporate Finance and Managerial Decision-Making

    The Text, chapter 16

    April 27-29 Behavioral Investing and Neurofinance

    The Text, chapter 19-20.

    May 1 Review for the Final Examination

    Explore the Securities Industry Corporate Finance Basics Corporate Finance Hot Links
    Hypertextual Finance Glossary Flat World Knowledge Online Textbooks Closed End Funds
    European Stock Exchanges The Efficient Market Hypothesis
    Yahoo Financial Glossary Overview of Behavioral Finance Website on Risk and Return
    Why Value a Project? Case Studies A Brief Guide to Options 2

    click symbol above to search SEC database

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    Copyright © 1998-2017, Satya Gabriel, Economics Department, Mount Holyoke College.