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A Behavioral Approach to Asset Pricing - 2nd Edition - ISBN: 9780123743565, 9780080482248

A Behavioral Approach to Asset Pricing

2nd Edition

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Author: Hersh Shefrin
Hardcover ISBN: 9780123743565
eBook ISBN: 9780080482248
Imprint: Academic Press
Published Date: 19th May 2008
Page Count: 618
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Table of Contents

1. Introduction

I Heuristics and Representativeness: Experimental Evidence
2. Representativeness and Bayes Rule: Psychological Perspective
3. Representativeness and Bayes Rule: Economics Perspective
4. A Simple Asset Pricing Model Featuring Representativeness
5. Heterogeneous Judgements in Experiments

II Heuristics and Representativeness: Investor Expectations
6. Representativeness and Heterogeneous Beliefs Among Individual Investors, Financial Executives, and Academics
7. Representativeness and Heterogeneity in the Judgements of Professional Investors

III Developing Behavioral Asset Pricing Models
8. A Simple Asset Pricing Model with Heterogeneous Beliefs
9. Heterogeneous Beliefs and Inefficient Markets
10. A Simple Market Model of Prices and Trading Volume
11. Efficiency and Entropy: Long-run Dynamics

IV Heterogeneity in Risk Tolerance and Time Discounting
12. CRRA and CARA Utility Functions
13. Heterogeneous Risk Tolerance and Time Preference
14. Representative Investors in a Heterogeneous CRRA Model

IV Sentiment and Behavioral SDF
15. Sentiment
16. Behavioral SDF and the Sentiment Premium

VI Applications and Behavioral SDF
17. Behavioral Betas and Mean-Variance Portfolios
18. Cross-section of Return Expectations
19. Testing for a Sentiment Premium
20. A Behavioral Approach to the Term Structure of Interest Rates
21. Behavioral Black-Scholes
22. Irrational Exuberance and Option Smiles 
23. Empirical Evidence in Support of Behavioral SDF

VII Prospect Theory
24. Prospect Theory: Introduction
25. Behavioral Portfolios 
26. Equilibrium with Behavioral Preferences
27. Pricing and Prospect Theory: Empirical Studies
28. Reflections on the Equity Premium Puzzle
29. Continuous Time Behavioral Equilibrium Models
30. Conclusion


Behavioral finance is the study of how psychology affects financial decision making and financial markets. It is increasingly becoming the common way of understanding investor behavior and stock market activity. Incorporating the latest research and theory, Shefrin offers both a strong theory and efficient empirical tools that address derivatives, fixed income securities, mean-variance efficient portfolios, and the market portfolio. The book provides a series of examples to illustrate the theory.

Key Features

  • The second edition continues the tradition of the first edition by being the one and only book to focus completely on how behavioral finance principles affect asset pricing, now with its theory deepened and enriched by a plethora of research since the first edition


Graduate students and professors in finance, and professionals working with investment tools such as financial analysts and portfolio managers


No. of pages:
© Academic Press 2008
19th May 2008
Academic Press
Hardcover ISBN:
eBook ISBN:


"A mathematical-economist-turned-behavioral-economist, Hersh Shefrin challenges and delights the reader by applying concepts of behavioral economics with emphasis on investor heterogeneity to revisit a broad spectrum of topics in finance including portfolio management, trading, and the pricing of equities, bonds and options."
--George M. Constantinides, Leo Melamed Professor of Finance, The University of Chicago Graduate School of Business

"The flood of empirical asset pricing research in recent years has often required financial economists to choose between two unpalatable options: either embrace the rich range of evidence with a somewhat atheoretical view; or, simply ignore that large portion of the evidence that conflicts with classical asset pricing theory. The behavioral finance pioneer Hersh Shefrin, in this new edition of his treatise, shows that one need not choose between theory and data. He shows that a number of seemingly "behavioral" patterns in the data can in fact be derived from a suitably modified version of the stochastic discount factor framework. Impressive in both scope and attention to detail, this book will be valuable for researchers, teachers, students, and investment professionals." --Jeffrey Wurgler, Research Professor of Finance, NYU Stern School of Business

"Judging from the large volume of trade in the financial markets and the astounding volatility of prices, one has to accept the idea that investors hold divergent and fast fluctuating beliefs. For this to make sense, I see only two possible hypotheses. Both individual and professional investors receive a lot of information — some of it public but a lot more of it private — on which they act. Or they all receive similar information but each one interprets that information somewhat differently from the other. Although it is not quite rational, I find the latter behaviour more plausible than the former. A large part of the second edition of A Behavioral Approach to Asset Pricing is devoted to developing this arresting, although by no means mainstream, hypothesis. In that endeavour, Professor Shefrin is a maverick and a pioneer." —Bernard Dumas, Professor of Finance, Swiss Finance Institute, Université de Lausanne, Switzerland

Praise for the First Edition:
"This book provides a much-needed bridge between behavioral finance and traditional asset pricing theory, so that the insights that the two fields offer can complement each other. This book will make the theory of behavioral finance far more useful and broadly applicable." --Robert Shiller, Cowles Foundation for Research in Economics, International Center for Finance, Yale University

Ratings and Reviews

About the Author

Hersh Shefrin

Hersh Shefrin holds the Mario L. Belotti Chair in the Department of Finance at Santa Clara University's Leavey School of Business. He is a pioneer of behavioral finance, and has worked on behavioral issues for over thirty years. A Behavioral Approach to Asset Pricing is the first behavioral treatment of the pricing kernel. His book Behavioral Corporate Finance is the first textbook dedicated to the application of behavioral concepts to corporate finance. His book Beyond Greed and Fear was the first comprehensive treatment of the field of behavioral finance. A 2003 article appearing in The American Economic Review included him among the top fifteen theorists to have influenced empirical work in microeonomics. One of his articles is among the all time top ten papers to be downloaded from SSRN. He holds a Ph.D. from the London School of Economics, and an honorary doctorate from the University of Oulu in Finland.

Affiliations and Expertise

Mario L. Belotti Professor of Finance, Leavey School of Business, Santa Clara University, CA, USA