Impact of Behavioral Biases and Decision Analysis Methods on Investment Performance of Individual Investors at PSX

Abstract

Purpose: Market bubbles and crashes remain unexplainable by classical finance theories. Because the history of the Pakistan Stock Exchange has been marked by occasional market bubbles and crashes, a behavioral study is conducted to investigate the impact of investor’s behavioral biases on investment performance. Design/Methodology/Approach: Our research investigates behavioral biases and examines the role of such biases in the selection of investment decision methods. We then investigate the direct impact of behavioral biases on investors' investment performance, as well as how investment analysis methods play a role in mediating the impact of behavioral biases on investment performance. We identified 11 irrational behavior biases based on existing literature and in-depth interviews with brokers, and two decision analysis methods are used: fundamental and technical. Findings: Our findings show that PSX investors exhibit moderately high levels of irrational behavior. Despite their moderately high level of irrationality, investors can use fundamental analysis to make better decisions and achieve better results. Since they use fundamental analysis method, they are boundedly rational rather than completely irrational. Implications/Originality/Value: The fundamental analysis does not fully mediate three determinants of irrationality, namely anchoring, control, and overconfidence. Individual investors and brokers are concerned about reducing the impact of these three biases in order to achieve optimal performance. Brokerage firms and fund managers are recommended to consider the behavioral aspects of investors to predict the future because behavioral factors of investors can not only shape the investment trend of individuals but also the market at large.