In February 2001, David Hirshleifer discussed the evolving paradigm of asset pricing, emphasizing the growing role of investor psychology. Traditional rational models are being challenged by approaches that incorporate investor biases and misvaluation. The article reviews the theoretical and empirical evidence on how psychological factors influence security prices, highlighting the importance of both risk and misvaluation in determining returns. It argues that the traditional view of rational asset pricing is not as solid as it may seem, and that investor psychology plays a significant role in market inefficiencies. The text explores various psychological biases, such as heuristic simplification, self-deception, and emotional influences, which can lead to systematic errors in decision-making. It also discusses the implications of these biases for market behavior, including the persistence of mispricing and the challenges of arbitrage. The article concludes that while rational explanations remain important, the integration of psychological factors into asset pricing models is becoming increasingly necessary to understand market dynamics. The discussion covers the effects of cognitive biases on investment decisions, the role of emotions in risk and time preference, and the impact of social and environmental factors on investor behavior. Overall, the text underscores the complexity of financial decision-making and the need for a more comprehensive understanding of investor psychology in asset pricing.In February 2001, David Hirshleifer discussed the evolving paradigm of asset pricing, emphasizing the growing role of investor psychology. Traditional rational models are being challenged by approaches that incorporate investor biases and misvaluation. The article reviews the theoretical and empirical evidence on how psychological factors influence security prices, highlighting the importance of both risk and misvaluation in determining returns. It argues that the traditional view of rational asset pricing is not as solid as it may seem, and that investor psychology plays a significant role in market inefficiencies. The text explores various psychological biases, such as heuristic simplification, self-deception, and emotional influences, which can lead to systematic errors in decision-making. It also discusses the implications of these biases for market behavior, including the persistence of mispricing and the challenges of arbitrage. The article concludes that while rational explanations remain important, the integration of psychological factors into asset pricing models is becoming increasingly necessary to understand market dynamics. The discussion covers the effects of cognitive biases on investment decisions, the role of emotions in risk and time preference, and the impact of social and environmental factors on investor behavior. Overall, the text underscores the complexity of financial decision-making and the need for a more comprehensive understanding of investor psychology in asset pricing.