Stock Market Case Study

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How to study Stock market trends - Ron Insana Things don’t always work as they should on Wall Street. However, financial markets send signals about the future of the economy. Markets can move in advance of what is known to the general public. In a broad view, markets seemingly anticipate political events. In other times, the markets will anticipate economic events long before the investing public understands what’s going on in the general economy. The market is also good at discounting a transformational event. When the market more than anticipates all future revenues and all the future profits that would accrue to the new phenomena, a bubble or mania develops. The most interesting part of the mania is the repetitive nature of the phenomenon …show more content…

Economists have liked to invoke the principle of rationality as an underlying component of their theory on EMH. This has been useful but it’s limited because people are not completely rational. Humans have limits. We are aware of other people’s weakness and have a tendency to exploit weaknesses. Psychologists, Daniel Kahneman and Amos Tversky, created what is considered the most famous element of behavioral economics; prospect theory. Prospect theory is a theory of how people form decisions about prospects. A prospect is a gamble or a decision made about uncertainty. Within prospect theory, the value function represents how people value things. The weighting function infers how people deal with probabilities. People don’t weigh gains and losses the same. What they found is that people’s value or utility diminishes as they gain more. But for losses, it’s the …show more content…

A probably is measured between zero and 100%. Kahneman and Tversky noted that for very small probabilities, people round the probability to zero. For high probabilities, people round up to one. If people decide not to round the probability to zero or one, they exaggerate the difference between zero and one. For most people, there are three probabilities; the event can’t happen, the event might happen or the event will happen. Prospect theory explains much of what happens in finance, but prospect theory doesn’t explain everything. Other biases, such as overconfidence and cognitive dissonance, cloud thinking. The tendency for overconfidence produces anomalies and opportunities for manipulation. Cognitive dissonance is a judgmental bias people tend to make as they can’t admit when they are wrong. People will cling to old beliefs and try to find evidence to support their beliefs because they have an ego involvement with the

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