Market Overreaction Explained

Kok Loang Ooi (), Norazlin Binti Ab Aziz () and Wee Yeap Lau ()
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Kok Loang Ooi: Universiti Malaysia
Norazlin Binti Ab Aziz: Universiti Malaysia
Wee Yeap Lau: Universiti Malaysia

Chapter Chapter 2 in Following the Crowd: Psychological Drivers of Herding and Market Overreaction, 2025, pp 23-42 from Springer

Abstract: Abstract Market overreaction refers to an investor’s disproportionate response to new information, often resulting in substantial price volatility that diverges from an asset’s intrinsic value. This phenomenon is influenced by cognitive biases, including availability heuristics, anchoring, and loss aversion, which skew investor perceptions and decision-making processes. Availability heuristics encourage investors to disproportionately focus on recent or salient events, anchoring their results in excessive reliance on initial price points, and loss aversion heightens their sensitivity to losses compared to profits. Consequently, market overreaction exacerbates volatility, creating opportunities for speculation and increasing financial instability. Comprehending this behaviour is essential for policymakers, financial analysts, and investors seeking to alleviate market inefficiency. An exemplary historical instance is the 1929 Stock Market Crash, where panic-induced overreaction led to a significant market collapse, underscoring the extensive economic ramifications of irrational investor behaviour. This chapter analyses market overreaction using theoretical frameworks and empirical data to elucidate its significance in financial markets.

Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:spr:sprchp:978-981-95-0792-4_2

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DOI: 10.1007/978-981-95-0792-4_2

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