The Influence of Herding Behavior and Overconfidence on Investment Decisions: The Mediating Role of Financial Literacy

Abstract

This study aims to analyze the influence of herding behavior and overconfidence on investment decisions and to examine the mediating role of financial literacy among retail investors. The research employed a quantitative approach using data collected from 160 active retail investors through a structured questionnaire. Data analysis was conducted using Partial Least Squares Structural Equation Modeling (PLS-SEM) with SmartPLS 4.1.1.6. The findings indicate that herding behavior and overconfidence have a positive and significant effect on investment decisions. Both behavioral biases also positively and significantly influence financial literacy. However, financial literacy does not have a significant effect on investment decisions. Furthermore, the results reveal that financial literacy fails to mediate the relationship between herding behavior and investment decisions as well as the relationship between overconfidence and investment decisions. These findings suggest that psychological factors play a more dominant role than financial knowledge in shaping investment decisions. In practice, social pressures such as fear of missing out (FOMO) and excessive confidence in personal abilities encourage investors to make decisions based on emotions and heuristics rather than rational financial considerations. Therefore, although investors may possess adequate financial literacy, such knowledge is often insufficient to function as a rational filter when psychological biases strongly influence investment decision-making.