Prospect Theory
Prospect Theory, developed by Daniel Kahneman and Amos Tversky, explains how people make decisions under uncertainty, particularly in finance. It reveals that individuals value gains and losses differently, often feeling the pain of losses more intensely than the pleasure of equivalent gains. This leads to risk-averse behavior when facing potential gains and risk-seeking behavior when trying to avoid losses. Essentially, people are more likely to hold onto losing investments too long (hoping to avoid a loss) and sell winning ones too quickly (to secure a profit), which can lead to irrational financial decisions.
Additional Insights
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Prospect theory is a behavioral economic theory that describes how people make decisions when faced with uncertainty. It suggests that individuals value potential gains and losses differently; losses typically feel more significant than equivalent gains. This leads to risk-averse behavior when considering gains and risk-seeking behavior when trying to avoid losses. In essence, people are more motivated to prevent losses than to achieve gains, which can lead to irrational decision-making. Developed by Daniel Kahneman and Amos Tversky, the theory helps explain why people often choose options that might not be economically rational.
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Prospect theory, developed by psychologists Daniel Kahneman and Amos Tversky, describes how people make decisions involving risk and uncertainty. It suggests that we value gains and losses differently; losses often weigh more heavily in our minds than equivalent gains. For example, losing $100 feels worse than the pleasure of gaining $100. This theory also shows that people tend to avoid risks when considering potential gains but seek risks when trying to avoid losses. Ultimately, prospect theory highlights that our choices are influenced more by potential losses than by equivalent potential gains, leading to seemingly irrational decision-making.