Using Models of Behavioral Finance in Portfolio Management

Portfolio theory is significant for investors to understand how to construct the portfolio and to change the allocation of assets in the portfolio in response to changes in the market. Taking into account behavioral factors, there are two approaches to portfolio management: traditional finance and behavioral finance. Most of earlier models were based on assumption of investors; rationality and hypothesis of market efficiency market and such models refer to classical approach. In connection with this approach’s inability to explain some situations in the market (for instance, deviation of the market price from the fair value) and evidence of violations of some assumptions, a new approach (behavioral finance) that explains market anomalies using behavioral finance theory has gained popularity. But for efficient portfolio management model it is necessary to combine this two approaches. This paper will attempt to create a model basing on Markowitz optimization portfolio theory and considering the behavioral factor – investors’ overconfidence.