Financial Literacy and Heuristic Driven Biases: The Role of Risk Perception

Abstract

This study scrutinizes the relationship between the investor’s financial literacy and heuristic-driven biases (Overconfidence, Representativeness, Availability, and Anchoring Bias). Further, it attempts to examine the mediating role of risk perception. We collected the data from 492 individual investors in India using a structured questionnaire. We adapted the questionnaire items from the benchmarked literature scales on financial literacy and heuristic-driven biases. The authors employed structural equation modelling to evaluate the proposed relationship between financial literacy and heuristic-driven biases. The process macro was employed to measure the mediating role between the mentioned constructs. The study demonstrates that financial literacy is inversely related to overconfidence and anchoring bias. Furthermore, risk perception fully mediates the relationship between financial literacy and representativeness bias. The key findings could be helpful for financial advisors dealing with their clients. The study could provide insights to the Government and private bodies working with the assumption that financial literacy reduces investment biases. To the best of the authors’ knowledge, this is the first study to examine the impact of financial literacy on investment biases dealing with mental shortcuts. The study is vital to comprehend the impact of financial literacy on decision-making heuristics and the role of risk perception in the mentioned constructs.

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