O P T I M I S M B I A S

Behavioral
Finance
What is
Behavioral
Finance?
The studies of the influence of psychology on
the behavior of financial analysts or investors.
This also includes the subsequent effects on the
markets and focuses on the fact that investors
are not always rational, have limits to their self-
control, and are influenced by their own biases.
 This is a cognitive bias
that would make an
individual believe that
they would be relatively
safer than others if any
Optimism negative event were to
occur.
Bias
Factors causing optimism bias to a
person
• Desired end state,
• Cognitive mechanisms,

• The information they have about themselves versus others

• Overall mood.
Example
Example

A person has optimism bias when someone’s subjective

confidence in their judgments is reliably greater than their
objective accuracy for example are traders who think they are less
exposed to losses in the markets. It is like living in the utopia
itself, where every woman is bold and strong, every man is a
handsome man, and the children are excellent all rounder.
Optimism bias examples include people believing that they
are less at risk of being a crime victim, first-time bungee
jumpers believing that they are less at risk of an injury than
other jumpers, smokers believing that they are less likely to
contract lung cancer or disease than other smokers, or
traders who think they are less exposed to losses in the
markets. Many investors fall into the trap of believing they
can pick winning investments every time.
Implications to
investors
Optimism bias causes investors to have overly optimistic views of
themselves and their futures.

Many individual investors can overestimate their investment performance due

to optimism bias and cognitive dissonance.

While investor trust in their capacity to foresee likely outcomes

(overconfidence) increases with information, research suggests that prediction
accuracy does not exist.
Example

Optimism bias example – it’s easy to remember your one stock

that earned you over 50 per cent of the investment in a single day,
but most of your investments are under water for the year.
Successful investors seek to find a balance between rashness and
timidity.
 A common mistake done by most of the individuals as an investor is
assuming that there is gaining above average returns. Also they tend to develop a
vague notion about fund managers who have access to the best investment
industry reports and computational models in the business, can still struggle at
achieving market-beating returns. Before they really understand something about
investing in the market, they either lack confidence or express overconfidence;
both of them prove to be fatal. A common type of overconfidence brooms from
inexperience. An ideal and intelligent fund manager knows that each investment
day presents a new set of challenges and that investment techniques constantly
need refining.
01 Manage emotions

02 Seek contrary opinions

03 Don't chase yesterday's winners

04 Beware of crowded trades Advice to

05
Pay more attention to detailed analysis than Investors
to stories
Conclusion
Inherent biases toward optimism and overconfidence affect human
decision-making processes. When these subjective views play a
substantial role in the financial decision-making process, it is
possible to overestimate the value of an opportunity. Investors fall
into the trap of believing they can pick winning investments every
time. As a result, they sometimes put too much of their wealth into
one single investment, such as a company stock, or a mutual fund
which is highly risky.

It takes optimism to take risks, plan for a future and defer

gratification. That bias toward optimism often leads us to have an
unrealistically positive view of ourselves and our futures.