It's not what a man don't know that makes him a fool, but what he does know that ain't so. It is difficult to reconcile the volume of trading observed in equity markets with the trading needs of rational investors. Rational investors make periodic contributions and withdrawals from their investment portfolios, rebalance their portfolios, and trade to minimize their taxes. Human beings are overconfident about their abilities, their knowledge, and their future prospects. Overconfidence and Trading on Financial Markets People are generally overconfident about their knowledge and abilities.
Overconfidence is observed in many professional fields.
Clinical psychologists, physicians and nurses, investment bankers, entrepreneurs, lawyers, negotiators and managers all exhibit overconfidence in their judgments. Overconfidence is greatest for difficult tasks, for forecasts with low predictability, and for undertakings lacking fast, clear feedback. Selecting common stocks that will outperform the market is a difficult task. Thus, stock selection is the type of task for which people are most overconfident. After accounting for trading costs, individual investors underperform relevant benchmarks.