Behavioral finance is the recognition that people often act irrationally, and this can have a deleterious effect on people’s finances. Here are a few of the terms that are applied to mental perspectives that can lead us into trouble.
- Someone says that it was obvious back in 2007 that financial stocks would crash as homes became virtual ATMs. The term for this bias is known as HINDSIGHT. Using hindsight, facts often appear obvious.
- Someone is nostalgic for the days of earning 12% interest on CDs back in 1981, forgetting about high taxes and inflation in that period. The concept that applies is known as FRAMING. The individual should be framing the situation in inflation-adjusted returns because he had large losses in spending power back then, especially after taxes.
We will have more on this subject in the future.