Representativeness can cause Biased Expectations, but not necessarily vice versa?

CFA Level III Portfolio Management
#1

Hi all,

In the Curriculum #2, below 3.2.2. Behavioral Finance,

The Biased expectations were explained as:

“Biased expectations result from cognitive errors and misplaced confidence in one’s ability to assess the future. Examples of cognitive errors include mistaking the skills of the average manager for those of a particular manager; overestimating the significance of low-probability events; and overestimating the representativeness of one asset compared with another asset.”

So can we draw a conclusion that Representativeness can cause Biased Expectation, but not necessarily vice versa?

In SS4 Private Wealth Management:

Does anyone know why “Positive liquidity inflows not due to portfolio asset should be noted”？

Is it because a risk from money laundering may exist in the inflows from unknown sources?

Thank you.

#2

As I understand this chapter, biased expectations of individuals are the consequence of cognitive errors and emotions (behavioral biases). This is like “intrinsic value” and “market value”: market value of an asset can be a biased estimation because “n” variables could prevent us to arrive at the true real intrinsic value of that asset.

Individuals that suffer from representativeness bias will have biased expectations of probabilistic outcomes. On the other hand, in the field of your question, "having a biased expectation (the individual does not know it is her case) can increase or decrease a specific cognitive error or emotion? Difficult to tell.

#3

To Harrogath, I think you are right. Misplaced confidence indeed should fall into the category of Emotional Biases.

By the way, do you have any thoughts on my second question?

It was in LOS 8.i of Schweser Notes #2 of 2018, Below “Liquidity”, the fourth bullet point of “the Clients’ needs for liquidity include:”.

#4

I have not been there yet, but my 2 cents:

Besides money laundry, could it be possible that wealth planner was concerned about unknown cash inflows (that could be recurring in some extent) because IPS commonly tries to be exhaustive in the asset management of an individual (or company). This means that in order to create a rational, optimum portfolio, the planner should be aware of all income flows and assets available.

Hope this helps.

#5

To Harrogath,

I think your statement is more comprehensive, and therefore, more reasonable than mine. It seems I need to take a more holistic view of those sessions related to IPS.

Go for it!