I came across this very unpopular book "Why smart people make big money mistakes and how to correct them" by Gary Belsky and Thomas Gilovich, so I thought that I should try to concise the book so please bear with me...

Here are the principles:---
1)Mental Accounting - is a term used to describe the way people tend to treat money differently depending on where it comes from,where it's kept or how it's spent. It can be useful habit when it leads you to treat savings for college or retirement as scared. But it can be dangerous when it cause you to spend money from some sources- such as gift,bonuses or tax refunds - more quickly than your might otherwise.Think about it and you will realize that you are caught with this bias.

2)Loss Aversion - One of the central tenet of prospect theory - a bedrock principle of behavioral finance - is that people are loss averse . The pain people feel from loosing Rs1000 is much greater than the pleasure they experience from gaining the same amount. this helps to explain why people behave inconsistently when taking risk.. For example the same person can act conservatively when protecting gains ( by selling successful investments to guarantee the profits.) but recklessly when seeking to avoid losses(By holding on to losing investments in the hope that they will become profitable).

3)The sunk cost fallacy - one of the most common behavioral finance mistakes, results in financial decisions that are based on previous investments or expenditures. Such a tendency is harmful for the simple reason that past mistake shouldn't lead you to make future ones.The past is past and what matters is what is likely to happen from now on .Well this is one of the tendency why so many government projects fail in the first place or took too much time for completion.Because once started they can never be closed because so much money has already been spent.

4)Number Numbness: This is the one which haunt most of the people and is again very dangerous . I have been a victim of it before I read something about it in Prof. Bakshi's blog. People give too much importance to big numbers an too little importance to smaller one. This is one of the reason value stores are still lagging behind kirana stores, though the saving potential in value store is more than general corner kirana store.People never thought that these small costs are the main criminals in there financial planning.Bigness bias is another term for this.This can also lead you to pay more than you need to, for the brokerage commission and mutual fund expenses.One common example is, many between us think that investing in a small mutual fund will lead you to greater returns but this is not at all true. Below is an example of sundram Tax saver recently noted No.1 tax saver fund and SBI Magnum Tax gain , both growth. Now both these funds have beaten the sensex since long(SBI Magnum has beaten it since 1996) but SBI magnum has also beaten sundaram since the start of sundaram I don't know why but high expense ratio is a surety.













5) Anchoring: The tendency to weigh certain facts , figures , and events too heavily and make your decision based on those. Example , you came to know that your friend has bought an antic for rs10000 then you will linger to that figure to buy one for you although it's not worth it. You can replace antic with anything : a fine buffet, buying a house, or anything.You just linger to the figure your friend has quoted and would always like to strike a better deal . After all you want to realize everyone your rationality.

6) Decision Paralysis : - Simple! most people never came to decision and keep on fighting with themselves to prove the points wrong. They seek lot of information , do thorough research and but are still skeptical about making a decision to buy any investment, buying a house etc.

Well these are some of the thoughts, Behavioral finance is a vast subject , once you overcame some of the biases, you will realize that you will get an edge towards so many psychological forces which are trying to beat you.

There is one more great book on Psychology :-- "Psychology Of Persuasion" By Robert Cladini,a great reads to.

Thanks,
Ashutosh
"Reading great books is a better concentration technique than doing Yoga :-)"