Investor Behavior: The Psychology of Financial Planning and Investing

CHAPTER 20

Human Psychology and Market Seasonality

Lisa A. Kramer

Associate Professor of Finance, University of Toronto

INTRODUCTION

Classical economics and traditional finance rest partly on the premise that individuals make decisions unencumbered by emotions. Of course, the assumed goal of economic agents is to maximize utility, which can equally be thought of as happiness. Happiness is clearly an emotional state, yet many economists and financial academics seem to prefer not to think of happiness in terms of emotions, and the lexicon associated with feelings is typically deemed to be irrelevant in the realm of standard economic and financial analysis. Traditional economics and finance has no room for sadness, excitement, or any other mood-related characteristics that most people would admit affect their daily lives to some extent.

If people experience their emotions randomly over time and/or across individuals, then ignoring the impact of their emotions on economic quantities could be prudent. Similarly, if emotions affect decisions but those effects do not amount to anything in aggregate when considering financial markets or the economy broadly, then quantitative analyses need not take account of emotions or other features of human psychology. If, in contrast, mood affects individuals' economic and financial decisions, and if the sum effects of those decisions fail to net to zero across individuals or at the macroeconomic level, then conventional economic analysis faces major ...