The Role of Behavioral Biases in Portfolio Diversification and Asset Allocation Decisions Among Investors

Posted: Oct 15, 2000

• Abigail King
• Abigail Moore
• Aiden Carter

Abstract

The foundation of modern portfolio theory rests upon the assumption of rational investors who make decisions based solely on expected returns and risk metrics. However, decades of behavioral finance research have systematically dismantled this assumption, revealing that investors are subject to numerous cognitive and emotional biases that significantly impact their financial decisions. While substantial literature exists on individual behavioral biases, there remains a critical gap in understanding how these biases interact and collectively influence portfolio construction decisions, particularly in the domains of diversification and asset allocation. This research addresses this gap by examining the complex interplay between multiple behavioral biases and their collective impact on investment decision-making processes.