Behavioural Risk Management in the Financial Markets

René Doff

For financial institutions, managing financial assets is central to their business. There is much research in this area that highlights that financial market participants are not so rational as the traditional neoclassical theories assume. This is visible in the choice of certain assets, the frequency of trades, the responses to market information and the appetite for risk. Due to its importance of the financial industry, this chapter will carry out a detailed investigation into the implications of behavioural economics without repeating the messages of earlier chapters. Some even call this field behavioural finance, and the academic field has provided many surprising insights into the irrational behaviour of investors and the potential explanations.

Although the chapter will discuss some specific insights of behavioural finance, it will be limited to those aspects relevant for risk management specifically rather than exploring the entire field. It will also analyse the investment process and how risk managers can add value to it through the use of behavioural perspectives. We will look at the investment process because the implications are clearest there. However, many of the