Behavioural economics, to put it simply, says stock prices are driven by people’s behaviour, and people are not always rational, they panic, they follow the crowd, they cannot let go of a losing position. So the key is to analyse how people behave, and predict their psychology and emotions, then you can predict where the stock price is going.
The Efficient Market Hypothesis, a hypothesis which does not fully hold, says roughly that in a market with effective competition and transparent information, all information is already reflected in the price, and the price changes when new information comes out. If this is true, technical analysis which only looks at past prices is useless, and fundamental analysis can hardly beat the market in the long run either. However, in reality the market is not fully efficient, information is not fully transparent, insider trading and market manipulation exist, and people’s irrational behaviour also pushes prices away from where they should be, so the Efficient Market Hypothesis does not fully apply.
Behavioural economics is harder to quantify when you analyse with it, it is more about reading the news, reading policy information, and the expectations of both retail investors and institutional investors. Use this as an early signal to guide trading.
References
- Fama, Eugene F. “Efficient Capital Markets: A Review of Theory and Empirical Work.” The Journal of Finance 25, no. 2 (1970): 383–417.
- Kahneman, Daniel. Thinking, Fast and Slow. New York: Farrar, Straus and Giroux, 2011.