Behavioral biases in financial markets
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Date
2024-09-30
Authors
Μελισσάς, Αντώνιος
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Abstract
The Efficient Market Hypothesis (EMH) states that all current asset prices reflect all currently available information with investors being rational profit maximizers. Under EMH, consistent abnormal profits from active investment strategies are impossible. Behavioral Finance challenges this view, with the proposal that investors are “normal” people who often behave irrationally. This opens the door for abnormal profits to occur. The current paper investigates three behavioral biases that go against the EMH in the DJIA index for the period 2008-2023: Technical Analysis, Overreaction and Herding. Findings are mostly in favor of the existence of the semi-strong form of market efficiency in the DJIA index. Technical Analysis trading rules were not able to beat the buy and hold strategy, with the buy and hold strategy statistically significantly outperforming the trading rules in many cases. Slight evidence of overreaction is found, but not on a consistent basis, a finding not strong enough to be in favor of the Overreaction Hypothesis. Finally, individual stocks’ dispersions increased during periods of large market returns, a finding against the presence of Herding.
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Keywords
Efficient market hypothesis, Behavioral finance, Technical analysis, Trading rules, Overreaction, Herding