Behavioral finance – an overview
There are many factors that influence the way an asset performance and the way the market progresses. And there are other factors that influence the decision that every investor or trader makes. With trading and other types of investments, there are several emotional decisions involved besides the ones that are arrived at based on logic and calculations. Understanding the investors’ behavior goes a long way in understanding the market movements.
This is a term that you must have often hear investors talk about. This is a theory that takes into account the fact that there are still humans behind every order placed in the market and these human investors are bound by emotions. Now there is an increasing usage of the bots to place orders as well as to take financial decisions. These trading bots would make behavioral finance an irrelevant topic. Behavioral finance is valid as long as there are human traders and investors.
Every little change that the market sees influences the emotions of the investors and when they decide based on their emotions the market further sees a few more changes and this cycle continues. The demand pattern can be understood by understanding behavioral finance.
Social trading is not new to us
Following someone else’s cues and taking decisions based on the social signals is not a new concept. There are some who even manipulate the market using this approach. But the crux of all this lies in the fact that people base their decisions not just on the logic and the technical and fundamental analysis but also on the basis of other investors’ decisions.
A combination of both would be a stronger approach
As the market gets more competitive and as the number of investors and traders keeps increasing a strong investment strategy is very important. Everyone wants to make profits. Unlike the other types of competitive scenarios in trading, when one makes profits the other doesn’t always have to end up in a loss. Those that make profits invest more and result in an increase in the demand further increasing the profits for the others as well. So clearly combining the results of behavioral finance as well as the technical analysis based conclusion would be a better way to invest. There are other contradicting theories like the efficient market hypothesis. But now more and more investors believe that the traditional approaches can be given a good upgrade by combining the understanding of psychological biases and the triggers of financial decisions.