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Skip Navigation LinksBehavioural Finance

Why is There a Need for Behavioural Finance?

The lessons of modern economics and finance or "neoclassical economics" are really about an ideal.

It is what happens, or should happen, if humans were able to leave their emotions behind when making decisions.

We are talking about Homo Economicus. According to modern economics, emotions, human fallibility and other extraneous factors do not influence people when it comes to making economic choices.

It Is Based on Three Major Assumptions:

Rational Assumes participants are rational
Wealth Maximisers Assumes participants are wealth maximisers
Reflect Fair Value Assumes prices always reflect fair value

These assumptions feed some fundamental economic models such as the Capital Asset Pricing Model and the Efficient Market Hypothesis.

If these three assumptions were correct then markets should be efficient but participants – humans – are not always rational wealth maximisers and due to the errors caused by the first two points, prices can be affected and create less efficient markets.