CFA Level I · CFA Level I Exam · The Behavioral Biases of Individuals
Compared with traditional finance, behavioral finance is most likely to explain observed market anomalies by:
Behavioral finance explains anomalies through systematic psychological biases that can lead to persistent mispricing. Traditional finance instead assumes homogeneous expectations and prices that move only with new information, which leaves anomalies such as bubbles hard to explain.
- Aassuming that all investors hold identical expectations
- Battributing persistent mispricing to systematic psychological biasesCorrect
- Cattributing price changes only to the arrival of new information
Explanation
Behavioral finance seeks to explain anomalies such as bubbles and momentum by systematic cognitive and emotional biases in investor behavior. Identical expectations and prices reflecting only new information are features of the traditional, efficient-market framework.
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