General Remarks

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• Information Efficiency versus Behavioral Finance
• The Revelation of Private Information through Trading
• The Limits to Arbitrage
• Informational Externalities
• Payoff-Externalities and Bank Runs
• Reputatuinal Herding
• Experimental Evidence on Herding Behavior
• The interaction of Fundamental and Feedback Trading
• Investor Psychology
• Behavioral Corporate Finance

Characterizing the course

Behavioral Finance explains financial phenomena by agents who are bounded rational. It consists of two building blocks: the limits to arbitrage and investor psychology. The aim of this lecture is to give students an overview over the field of behavioral finance. At the end of the semester students should know under which conditions arbitrage does not work, how behavioral patterns guide agents' investment decisions, when herd behavior occurs and what implications bounded rationality has for market outcomes.

Course Contents

• Market Efficiency and Market Anomalies
• The Transmission of Private Information
• The Limits to Arbitrage: Noise Trader Risks in Financial Markets
• Herd behavior in Financial Markets
• Investor Psychology
• Behavioral Corporate Finance

Time Table

Literature

Additional literature for each lecture can be found in the following bibliography:

• Avery, C. and P. Zemsky (1998), “Multidimensional Uncertainty and Herd Behavior in Financial Markets”, American Economic Review, Vol. 88(4), 724-748.

• Baker, M., S. Ruback and J. Wurgler (2005), “Behavioral Corporate Finance: A Survey”, in Eckbo, E. (Ed.), Handbook of Corporate Finance: Empirical Corporate Finance.

• Barbaris, N. and R. Thaler (2003), “A Survey of Behavioral Finance”, in Constantinides, G., M. Harris and R. Stulz (Eds.), Handbook of the Economics of Finance, Edition 1, Volume 1, Chapter 18, 1053-1128, Amsterdam, North Holland.

• Barbaris, N., A. Shleifer and R. Vishny (1998), “A Model of Investor Sentiment”, Journal of Financial Economics, Vol. 49, 307-343.

• Barberis, N. and W. Xiong (2009), “What Drives the Disposition Effect? An Analysis of a Long-Standing Preference-Based Explanation”, Journal of Finance, Vol. 64(April), 751-784.

• Bikhchandani, S., D. Hirshleifer, I. Welch (1992), „A Theory of Fads, Fashion, custom and Cultural Change as Informational Cascades“, Journal of Political Economy, Vol. 100(5), 992-1026.

• Carlson, M. (2006), “A Brief History of the 1987 Stock Market Crash”, Finance and Economics Discussion Series 2007-13, Federal Reserve Board.

• Cipriani and Guarino (2007), “Herd Behavior in Financial Markets: A Field Experiment with Financial Markets Professionals”, Working Paper.

• Deaves, R., E. Lüders and M. Schröder (2005), “The Dynamics of Overconfidence: Evidence from Stock Market Forecasters”, ZEW Discussion Paper No. 05-83.

• DeLong, B., A. Shleifer and L. Summers (1990), “Noise Trader Risk in Financial Markets”, Journal of Political Economy, Vol. 98(4), 703-738.

• Diamond, D. and P. Dybvig (1983), “Bank Runs, Deposit Insurance and Liquidity”, Journal of Political Economy, Vol. 91(3), 401-419.

• Drehmann, M., J. Oechssler and A. Roider (2005), „Herding and Contrarian Behavior in Financial Markets – An Internet Experiment“, American Economic Review, Vol. 95(5), 1403-1426.

• Gervais, S. and T. Odean (2001), “Learning to be Overconfident”, Review of Financial Studies, Vol. 14(1), 1-27.

• Glosten, L. and P. Milgrom (1985), “Bid, Ask and Transaction Prices in a Specialist Market with Heterogeneously Informed Traders”, Journal of Financial Economics, Vol. 14(1), 71-100.

• Hong and Stein (1999), “A Unified Theory of Underreaction, Momentum Trading and Overreaction in Asset Markets”, Journal of Finance

• Lewis, K. (1999), “Trying to Explain Home Bias in equities and Consumption”, Journal of Economic Literature, Vol. 37(2), 571-608.

• Lo, A. (2007), “Efficient Markets Hypothesis”, in Blume, L. and S. Durlauf (Eds.), The New Palgrave: A Dictionary of Economics, Second Edition, New York: Palgrave McMillan.

• Menkhoff, L. and Taylor, M. (2007): “The obstinate passion of foreign exchange professionals: technical analysis”, Journal of Economic Literature, 45, 936-972.

• Pierdzioch, C. and G. Stadtmann (2010), „Herdenverhalten von Wechselkursprognostikern?“, Jahrbücher für Nationalökonomie und Statistik, Vol. 230(4), 436-453.

• Scharfstein, D. and J. Stein (1990), „Herd Behavior and Investment“, American Economic Review, Vol. 80(3), 465-479.