A UNIFIED THEORETICAL FRAMEWORK OF COGNITIVE BIASES AND MARKET ANOMALIES IN BEHAVIORAL FINANCE
A UNIFIED THEORETICAL FRAMEWORK OF COGNITIVE BIASES AND MARKET ANOMALIES IN BEHAVIORAL FINANCE
Dancun Odhiambo Owino
Fidelis Gathara
Gilbert Oyugi Mososi
ABSTRACT
Traditional finance theory assumes that investors are rational agents who maximize expected utility and process information efficiently. However, persistent market anomalies and systematic deviations from rational behavior challenge these assumptions. Behavioral finance emerged as an interdisciplinary field integrating psychology and economics to explain how cognitive biases influence investment decisions and contribute to market inefficiencies. This paper develops a unified theoretical framework that links cognitive biases at the individual level to market anomalies at the aggregate level. The framework demonstrates how heuristic-driven decision-making, emotional influences, and social interactions collectively shape financial markets. By integrating prospect theory, bounded rationality, and adaptive market dynamics, the study provides a comprehensive explanation of anomalies such as momentum effects, excess volatility, market bubbles, and equity premium puzzles. The framework contributes to behavioral finance literature by offering a holistic perspective that connects micro-level psychological processes with macro-level market outcomes.
