All economic theories assume a Homo economicus; which in plain English means a totally rational investor. We forget this basic assumption which makes all models ill-fit to our emotional and unstable behavioral profiles. This point cannot be ignored anymore, as we seek to deploy technology to offer customized financial advice and goal-based services.
Deep dive into the Theory of Financial Market Transparency in which Paolo Sironi re-thinks the shortcomings of neoclassical theory and behavioral economics. Listen to the importance of how we humans make financial decisions while facing fundamental uncertainty and limited & irreversible time.
Assuming rationality at all times in financial decision making, is no more a viable framework. Listen to my interview with Paolo Sironi on Sustainable Banking innovation.
Victor Haghani, founder and CIO of Elm Partners, looks back to the 1900s in the US. During this time, there were 4,000 millionaires. One hundred plus years later, there should be 30 times more families spun off from these millionaire roots. So, 120,000 families should have branched out from these millionaires. Assuming that they were able to just match the average stock market return during this centennial, they would all be billionaires.
Forbes magazine reports that there are only 400 billionaires with roots back into the 1900s. Where are these missing billionaires and why most investors fail to capture the returns offered by the market?
Deep dive into the Tedx Talk: Where are all the Billionaires? & Why should We Care?: Victor Haghani
Greg Davies, head of Behavioral Science at Oxford Risk, highlights that investors are driven by emotions. In practice, we all trade too frequent, often buy-low and sell high, and choose short term gains and satisfactions over long term gains and uncertainly. These behavioral facts contradict the assumption of traditional finance theories and the totally rational investor.
This is the so called ‘Behaviour Gap‘ – the difference between what investors should get if they followed classical investment principles and what the actually get (because they don’t.)
Listen to my interview – Financial and emotional decision making – with Greg Davies about Oxford Risk, a Fintech offering software for financial decision making that takes into account uncertainty and the emotional human `biases`. Barclays and Nutmeg are two of several companies that use Oxford Risk.
I have no positions or commercial relationships with the companies or people mentioned. I am not receiving compensation for this post.
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