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Investment decisions, net present value and bounded rationality

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  • Carlo Alberto Magni

Abstract

The Net Present Value maximizing model has a respectable ancestry and is considered by most scholars to be a theoretically sound decision model. In real-life applications, decision makers use the NPV rule, but apply a subjectively determined hurdle rate, as opposed to the 'correct' opportunity cost of capital. According to a heuristics-and-biases-program approach, this implies that the hurdle-rate rule is a biased heuristic. This work shows that the hurdle-rate rule may be interpreted as a fruitful strategy of bounded rationality, where several domain-specific and project-specific elements are integrated and condensed into an aspiration level. The paper also addresses the issue of a productive cooperation between bounded and unbounded rationality.

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Bibliographic Info

Article provided by Taylor & Francis Journals in its journal Quantitative Finance.

Volume (Year): 9 (2009)
Issue (Month): 8 ()
Pages: 967-979

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Handle: RePEc:taf:quantf:v:9:y:2009:i:8:p:967-979

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Related research

Keywords: Corporate finance; Investments; Bounded rationality; Valuation; Cognition and economics;

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Cited by:
  1. Marco Monti & Riccardo Boero & Nathan Berg & Gerd Gigerenzer & Laura Martignon, 2012. "How do common investors behave? Information search and portfolio choice among bank customers and university students," Mind and Society: Cognitive Studies in Economics and Social Sciences, Fondazione Rosselli, vol. 11(2), pages 203-233, December.

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