Investor Behaviour as a Driver of Financial Market Bubbles: A Review of the Behavioural Finance Literature
Abstract
Purpose – This review examines the role of investor behaviour in the formation and bursting of financial-market bubbles from a behavioural-finance perspective. It synthesises evidence concerning behavioural foundations, cognitive biases, investor sentiment and herding, speculative trading and leverage, and the influence of digital information environments and retail-investor participation. Design/methodology/approach – A thematic literature review was adopted to integrate findings from behavioural finance research. The analysis considers how individual psychological biases interact with social, informational, technological, and market-structural factors to generate and sustain speculative price dynamics. Findings – The review indicates that overconfidence, representativeness, anchoring, confirmation bias, availability bias, and loss aversion shape risk perceptions, expectations, and trading decisions, thereby encouraging speculative behaviour. However, bubbles rarely arise from a single cognitive bias. Rather, biases interact with investor sentiment, social influence, herding, informational cascades, and positive-feedback trading, converting individual tendencies into collective market dynamics. Speculation, leverage, and limits to arbitrage further amplify price deviations. Digital platforms, social media, online investment communities, and financial influencers increasingly accelerate information diffusion, attention, herding, and fear of missing out, particularly among retail investors in India. Bubble bursting involves expectation shifts, fear, panic, loss aversion, forced selling, deleveraging, and liquidity contraction. Originality/value – The review proposes a multilevel behavioural framework linking individual psychology, collective behaviour, digital information, speculative trading, market structure, and institutional conditions. It highlights the need for financial literacy, investor protection, effective regulation, and behavioural-market surveillance to strengthen financial-market stability.