Emotions, Bayesian Inference, and Financial Decision Making

Posted: 27 Jan 2006

See all articles by Diego A. Salzman

Diego A. Salzman

The Research Laboratory for Behavioral Finance

Emanuela Trifan

Catholic University of Leuven, Center for Operation Research and Econometrics (CORE); Darmstadt University of Technology - Institute of Economics - Department of Applied Econometrics; Department of Economics, Chair of Econometrics

Date Written: November 2005

Abstract

This paper presents a model in which rational and emotional investors are compelled to make decisions under uncertainty in order to ensure their survival. Using a neurofinancial setting, we show that, when different investor types fight for market capital, emotional traders tend not only to influence prices but also to have a much more developed adaptive mechanism than their rational peers, in spite of their apparently simplistic demand strategy and distorted revision of beliefs. Our results imply that prices in financial markets could be seen more accurately as a thermometer of the market mood and emotions rather than as simple informative signals as stated in traditional financial theory.

Keywords: Judgement under uncertainty, Bayesian Inference, Behavioral Finance, Decision Making, Emotions

JEL Classification: G1

Suggested Citation

Salzman, Diego A. and Trifan, Emanuela, Emotions, Bayesian Inference, and Financial Decision Making (November 2005). Available at SSRN: https://ssrn.com/abstract=878278

Diego A. Salzman

The Research Laboratory for Behavioral Finance

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Emanuela Trifan (Contact Author)

Catholic University of Leuven, Center for Operation Research and Econometrics (CORE) ( email )

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Darmstadt University of Technology - Institute of Economics - Department of Applied Econometrics ( email )

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