Behavioral Portfolio Management

Abstract

Behavioral Portfolio Management (BPM) is presented as a superior way to make investment decisions. Underlying BPM is the dynamic market interplay between Emotional Crowds and Behavioral Data Investors. BPM’s first Basic Principle is that Emotional Crowds dominate the determination of both prices and volatility, with fundamentals playing a small role. The second Basic Principle is that Behavioral Data Investors earn superior returns. I present the evidence supporting these first two Principles. The third Basic Principle is that investment risk is the chance of underperformance. It is important to distinguish between emotions and investment risk so that good decisions are made. In order to achieve the best results using BPM, investment professionals should redirect their own emotions, harness the market’s emotions, and mitigate the impact of client emotions on their portfolio.

Keywords: Behavioral Science, Behavioral Finance, behavioral investing, Modern Portfolio Theory, emotional catering, portfolio management

JEL Classification: G12, G15, C82