Practical analysis for investment professionals
09 October 2017

Nobel Laureate Richard H. Thaler on the End of Behavioral Finance

Richard H. Thaler, the US economist who elevated the word “nudge” from transitive verb to political catchphrase, can now add “Nobel laureate” to his impressive biography.

On Monday, the Royal Swedish Academy of Sciences in Stockholm announced that Thaler, who teaches at the Booth School of Business at the University of Chicago, had won the 2017 prize in economics “for his contributions to behavioral economics.”

In a statement, the Royal Swedish Academy said that Thaler “has incorporated psychologically realistic assumptions into analyses of economic decision-making. By exploring the consequences of limited rationality, social preferences, and lack of self-control, he has shown how these human traits systematically affect individual decisions as well as market outcomes.”

Thaler is perhaps best-known for his popular book about choices: Nudge: Improving Decisions about Health, Wealth, and Happiness — how we make them and what we can do to improve how we make them. His “nudge” theory is also credited with inspiring former UK prime minister David Cameron’s Behavioural Insights Team (BIT) — or “Nudge Unit.” Thaler reportedly “visited Britain in 2008 to promote his theory, met Cameron, and made such an impression that for a time he acted as unpaid adviser to the Tory leader.”

Former US president Barack Obama also officially adopted the “nudge” approach when he created the Social and Behavioral Science Team (SBST), which sought to integrate behavioral science research into policy making.

Shortly after the announcement from Sweden, fellow economist Tyler Cowen wrote:

This is a prize that is easy to understand. It is a prize for behavioral economics, for the ongoing importance of psychology in economic decision-making, and for ‘Nudge,’ his famous and also bestselling book co-authored with Cass Sunstein.

Cowen also noted that “perhaps unknown to many, Thaler’s most heavily cited piece is on whether the stock market overreacts for psychological reasons.”

Perhaps also unknown to many is that Thaler spoke at the 70th CFA Institute Annual Conference in Philadelphia this past May.

My colleague, Shreenivas Kunte, CFA, wrote a recap of the session, entitled “Richard Thaler: To Intervene or Not to Intervene.” Another colleague, Ron Rimkus, CFA, conducted a 13-minute interview with Thaler.

Thaler has also contributed to the CFA Institute Financial Analysts Journal®, among other CFA Institute publications over the years.

In his prescient conclusion to the 1999 piece, “The End of Behavioral Finance,” he wrote:

“Behavioral finance is no longer as controversial a subject as it once was. As financial economists become accustomed to thinking about the role of human behavior in driving stock prices, people will look back at the articles published in the past 15 years and wonder what the fuss was about. I predict that in the not-too-distant future, the term ‘behavioral finance’ will be correctly viewed as a redundant phrase. What other kind of finance is there? In their enlightenment, economists will routinely incorporate as much ‘behavior’ into their models as they observe in the real world. After all, to do otherwise would be irrational.”

Additional Thaler-Related Content:

  • Thaler presented a compelling analysis of the “Architecture of Choice” in an audio podcast.
  • In “Theoretical Foundations I,” published in June 2001, Thaler explored the equity risk premium. According to the article’s abstract:

“One of the puzzles about the equity risk premium is that in the U.S. market, the premium has historically been much greater than standard finance theory would predict. The cause may lie in the mismatch between the actual asset allocation decisions of investors and their forecasts for the equity risk premium. In this review of the theoretical explanations for this puzzle, two questions are paramount: (1) How well does the explanatory theory explain the data? (2) Are the behavioral assumptions consistent with experimental and other evidence about actual behavior? The answers to both questions support the theory of ‘myopic loss aversion’ — in which investors are excessively concerned about short-term losses and exhibit willingness to bear risk based on their most recent market experiences.”

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

Image Credit: W Scott Mitchell 2016

About the Author(s)
Lauren Foster

Lauren Foster was a content director on the professional learning team at CFA Institute and host of the Take 15 Podcast. She is the former managing editor of Enterprising Investor and co-lead of CFA Institute’s Women in Investment Management initiative. Lauren spent nearly a decade on staff at the Financial Times as a reporter and editor based in the New York bureau, followed by freelance writing for Barron’s and the FT. Lauren holds a BA in political science from the University of Cape Town, and an MS in journalism from Columbia University.

2 thoughts on “Nobel Laureate Richard H. Thaler on the End of Behavioral Finance”

  1. Rowan Williams-Short says:

    Hi, Lauren

    Thanks for another incisive, succinct article. Since you mention some little-known facts, here is another: The Economics prize is not truly a Nobel prize.

    “When Alfred Nobel signed his will in 1895, he specified that the bulk of his estate be spent on awarding prizes for those who made significant contributions in one of five fields. These fields are chemistry, physics, medicine, literature and peace.

    A sixth Nobel Prize was created in 1969 in the field of economics. This award is not technically a Nobel Prize because the Bank of Sweden finances funds for the award. However, some of the committee nominating and selecting a winner in mathematics have ties to other committees that grant the Prize to those in other science branches.

    Each Prize category has its own nominating and voting committee, and prizes tend to be awarded yearly. However, Nobel only stipulated awards once every five years. Notable omissions of the award occurred during WWII. Nazi occupation of Norway interfered with Norway’s ability to select and award candidates from 1939 through 1943. As well, no Noble Prizes for Peace were awarded in 1966 and 1967.”

    Best regards,

    1. Very interesting! Thanks for sharing that background, Rowan.

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