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    14 views30 pages

    Behavioral Finance Unit 4 MBA

    Uploaded by

    Ashita Srivastava

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    © All Rights Reserved
    Download as PDF or read online from Scribd
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    of 30
    9, External Factors and Investor Behaviour 40, Geomagnetic Strom and Its Effects on Stock Markets s and Investor ternal Factor: gehaviour _ Ss LEARNING OBJECTIVES : + How is investor behaviour flected by different external factors: + Detailed explanation of fear and greed : * How to measure fear and greed with the help of VIX + Emotions and their aspects: « Emotions in financial market EXTERNAL FACTORS AND INVESTOR BEHAVIOUR Do You Know? Online investor has more knowledge than normal investors to succeed in the securities market, Introduction From the previous chapters, we now know that behavioural finance theories are based on the psychology, and tell that individual investor's behaviour is influenced by emotions and cognitive errors. The regulators of stock market cannot discount the behaviour of individual investor as they play a very important role in the stock market because of their savings. The investment decision of individual in the stock market 's influenced by several behavioural factors, characteristics of market participants as well as market outcomes. The two building blocks of behavioural finance are Cognitive Psychology and the limits to arbitrage. Cognitive psychology refers to how people think in different situations and Limits to arbitrage refers to predicting in what conditions arbitrage forces will be effective and when they are not effective. The stock market iregularties are explained by behavioural finance because it proposes psychology. ‘ased theories. js In this chapter we stress on external factors—how they ales oe savestors behaviour? External factors affect behaviour of the investor according to the place, gf 152 Behavioural Finance ation of the stock marke , So, there are diverse reviews by thee region, and situa ~ searchers in different countries res -FERENT RESEARCHERS CONTRIBUTION BY DIFFERENT RESEARC shes reveal that factors influencing Greek investor behaviour on 4 Many researches 5 ace is not based on single variable. Their purchase deci e See ae AR criteria with other different variables, namely the « ssrrables have significantly influenced the investor deg such as corporate earnings, financial statement, sane of pons tate Prices, price movements of stock, feelings of firm’s product an le , ae and some hayg least or no influence on the investor decision such as pol itica party affiliations friend and co-worker recommendations, perceived ethics of firm, family Member depends on the ect on” variables. Some variabl opinions, et P? The factors influencing analyse that factors influencing the UAE investor behaviour in Dubai Financial Market and Abu Dubai Securities Markets. He found six factors which have significant affect on investors—expected corporate earnings, get quick rich, stock marketability, government holdings, past performances of the firm of their stock, the creation of the organized financial market. And five factors which have least influence or influence on the investor decisions such as gut feeling on the economy, family members opinion, expected losses in the international financial market, expected losses in other local investment. The relationship between financial and demographic behavioural factors in investment decisions. His study gives a great impact on demographic factors which influence the behaviour of the individual investors. He also concludes that there are five financial factors with whom gender interacts, i.e., overreaction, irrational, cognitive bias, overconfidence, herding as compared to the saving interacts there are four financial factors—overreaction, irrational, cognitive bias, and herding. In Nigerian Capital market the investors are influenced by get rich quick, future financial security, recent and past financial stock of the company, expected stock ot dividend increment, recommendations by stock brokers, accounting information, Publicity, ownership structure. Some investors are also influenced by age, marital status, educational qualification, gender, But investor decision relating to ag gender, marital status, educational qualification is different from the company's past performance, aan ea he factors influencing the Karachi Stock exchange is education! Beare '¢ can say interest towards qualification, it is the most si as an impact on stock prices, Other factors are income, age, carning per share, foreign direct investment, and i juct which have reat impact on the stock prices. , and gross domestic prod ate a ; gendel ae aoe eats the factors affecting investors behaviour are age and skis | in factors which decide the ability of the investor, how much — Exte I Factors and Investor Behaviour 153 he investor. Normally individual investors prefer investment according to uaken BY ns ence, for example fixed deposits, PPE, NSC’s, post office deposits, ete ue ar the investors take decisions using some source and by taking references most 0 ar others j i ere aden i From the above reviews given by different researchers, we can conclude that » are several determinants that influence the investor’s behaviour in stock De i Some factors are very significantly influenced ‘and tommon factors Pe rroared fo the 1eest inlenesd Teor wh6h InAUsHea eee Mehaviour of as Grvestors. Factors can be grouped in different strata such as demographic, i ological, economic, and social, There are some significant factors which a raens the investors behaviour, They are age, marital status, gender, herding, irrational thinking, over and under confidence, educational qualification, past performance of the company, divined and bonus distributed by the firm, etc, On the other side of the coin there are several factors which have le the individual investor’s behaviour such as inflation, ethi impact on 's of the firm, family members opinion, political party affiliation, publicity, trading opportunity, social responsibility, ete. FACTORS I LUENCT INVESTOR'S BEHAVIO Table 9.1 list the factors that influence investment behaviour. Table 9.1 Factors that Influence Investment Behaviour Investor Behaviour _ Expected corporate earnings : Irrational thinking Economic expectation Age, gender, qualification, occupation, + Diversification needs ete. + Ethics of the firm * Accounting information * Publicity * Dividends Over and under confidence Get rich quick + Herding Friends and family opinions Past performance of company * — Cognitive bias Risk factors © Bonus payments Inflation Social responsibility + Political affiliation 154 Behavioural Finance CLASSIFICATION OF E: INVESTORS BEHAVIOUR Advocate Recommendation Sica Est -les colic} Risk Bearing Capacity — NovilE Tafel olay _ & Retum & Rik Cove ‘+ Family Members * Freinds or Colleague advice ‘Advice from Brokers Oe aaa ‘© Appreciation Cees External Factors and Investor Behaviour 155 set IO AND GREED IN FINANCIAL M ARKET oak eae De You Kowh., e Markets are driven by just two emotions: Fear and Greed por! Wall Street —_———e——— ee pes and Greed are mirror images of each other. Fearful investors tend to panic and their assets less than their worth and greedy investors purchase these assets. Jn this subject we are talking about human behaviour, stock market trading is just human endeavour. Trading in stock market is controlled by human emotions, ie far and greed. Both fear and greed take out extremes in human behaviour, yet sis the very ammunition a trader looks for. It brings out new prospect on every day. ‘The elements of fear and greed are lively and healthy for all players, because large spount of money taken from banks, equity, mutual funds, pension funds and money wgers drive the market. They also operate the environment. Are they immune from } zaotions? Does their job performance depend on their portfolio’s performance? Don't | they have to answer to their board of directors, their shareholders? So we can conclude that all the people in market have to suffer from fear and greed. Now we take into consideration fear and greed into detail. Introduction of Greed ‘Greed is defined as an irresistible urge to possess more and more, than an individual actually needs. This greed may be of money, status, food or any other materialistic ‘Some researchers say that greed is like love or others say that itis like an addiction, _} Hf we consider greed as love, it has the power to change our minds, keep out of the ‘¥4) our senses, control the individual and provoke our mind and body to change. On ‘he other hand if we consider greed like an addiction, because greed is like smoking "ud drinking. If person comes out of the addictions it is possible to get over from the fad effect of it but on the other hand if someone does not resist its inducement, he tan easily be brushed away by it. Or in other words we can say that, in business world, raders are hit by emotional disturbances and are addicted to get rid off from the state appiness, leisure, and excitement but some are prone to all these addictions. In as drug creates an absurd and risky feeling, the same way human minds are y activate by financial awards. However, there is no established research on try of the greed. 156. Bebavioural Finance Greed’s Power It isa human behaviour, all of us want to get hold of a large amount of weay the shortest amount of time. Dotcom bubble or it is also known as ir of the late 1990s is a wonderful example relating to greed. At this time specuiay, investment fizz was started by new internet companies 1n mid-2000. Durin stocks were overpriced of new internet companies which provoked the 7 invest into companies with a “.com” at the end of it. Purchasing activities of interne related stocks started by many new companies arrived at feverish pitch. Investors tg to be greedy, decisive further greed and results in securities being greatly exorbitan priced, which further created a bubble Greed’s power makes the get-rich-quick mentality which ultimately makes it toy, to continue gains and maintain a strict investment plan over the long-term periog Introduction of Fear Emotion isa feeling of inconvenience and stressful state in adverse conditions, where; a feeling of pleasure in favourable conditions. : Fear is an unpleasant, often strong emotion, of anticipation or awareness danger. As markets turn to be overwhelmed with greed in the ame way it can tal place with the fear. When there are huge losses for some period and they contin for sustained period, the whole market is caught in a fearful situation and it sustaj further losses. As being too greedy is not good in the same way being too fearful is al a costly trade. Fear Power Dot-com bubble or Internet boom is not only dominated by greed investors in tJ market but also contribute as a good features for fear following its bust. As a mark stem their losses after the colliding internet boom, fearful investors take a decisi to come out quickly from the stock market and search for the more certain, stabl valuable funds that are less risky in nature. Investors want to bid their money in tl money market securities and principal protected funds and all of them are low risk at return securities. This behaviour of the investor shows a carelessness of long-term investment pl which are based on fundamentals. Investors, overlooked their plans because of anxie fear of committing endure losses which ultimately did not fetch any profits and gait Fear and greed is the situation which is natural but also unpredictable in the st market, When the market is in volatility, investors are not in comfort zone, they becol ‘exposed to fear and greed emotions which time and again result in very costly mista External Factors and Investor Behaviour 157 rovoked by emotions of fear or pree ay be PIO “ar or greed and prefer the basic fundamentals of stment. ve e Iris also impor ant for an lavestor to choose « suitable asset alloeution mie Por a k-averse person, overrun by the fear or greed dominating market and use of this the experience of equity market is not good as compared to the investor who cam bee more risk. Buffett was once quoted as saying, “If you want a good Pxposure of stock market you able to watch your stock holding decline by 50% without becoming panic-: example, ar hould be ricken,” Fear, Greed and Hope Some researchers oppose the opinion that greed financial markets. Psychologist Lola Lopes says that majority of investors don’t respond much to as compared to hope but he consider fear is definitely a vital factor driving financial markets. Lopes also indicate that fear motivate investors to give attention to unprofitable investments, on the other side hope is exactly opposite of the fear. Moreover, hope and fear are believed to modify the manner in which investors estimate other possibilities. Fear provokes investors to ask: How bad can it get? While hope: How good can it get? So we can conclude that fear compel investors to boost security, while hopes inspires investors to emphasize potential. and fear are main emotions driving __ Fear and Greed is as Much as 90% of What Measurement of Fear and Greed The Volatility Index (VIX) is one of the best and accepted tools to measure the price evel in the stock market. It was introduced in 1993 by CBOE Volatility Index (Chicago Board Options Exchange). VIX is considering standard for the stock market volatility asit becomes the world premier barometer for the investor's sentiments. In other words, is also known as fear and greed gauge in the stock market. It has been observed that VIX is usually known as the fear index. If the VIX index increased, the sentiments _ of investor’s bend towards the higher volatility which ultimately increase the risk or in other words we can conclude that greater the fear, higher is the VIX level. VIX index 18 based on option price which reveal the investor consent for future expected stock market yolatility. 3 ‘ ; If we want to see fearful and fearless investors in the market, VIX index is very ‘ul. When VIX reading is under 20 it generally shows that investors are less fearful ‘if reading is exceeds 30 it shows investors are more fearful as option prices have ‘ and investors have to pay more to save their assets, 158 Behavioural Finance VEX IN INDIA “The Volatility Index Will Increase the Understanding Among People, Once _ Happens, We Will be Ready to Launich Products Based On It. That bee ee s — C.B. Bhave, Chairman of SEB; National Stock Exchange (NSE) launched VIX in India in April 2008. The vix ig of India is based on the Nifty 50 Index Option prices and the procedure of ealeyin the VIX index is same as that for CBOE VIX index. The current focus on the VIX due to its inherent property of negative correlation with the underlying price indeg and its usefulness for predicting the direction of the price index. Factors considered in computation Methodology of India VIX . Time to expiry . Interest rate . The forward index level . Bid-ask quotes Rope India VIX uses the computation methodology of CBOE, with suitable amendments to adapt to the NIFTY options order book. The formula used in the India VIX calculation is: Fr Atera Ky-v7] pes K, where: g India VIX/100 India VIX= o x 100 T Time to expiration Strike price of 7 out-of-the-money option; a call if K,>Fandaputif

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