Prospect

Theory
Behavioral Finance
 01
History
 History
● Daniel Kahneman &
Amos Tversky
● Loss-Aversion Theory
 02
Definition
 Prospect Theory
• is a psychology theory that
describes how people make
decisions
• says that investors value
gains and losses differently
• states that decision-making
depends on choosing
among options
 03
Phases
 Phases of Prospect Theory

Editing Phase Evaluation Phase

refers to how people involved in people tend to behave as if they
decision-making characterize the would make a decision based on the
options for choice or the framing potential outcomes
effects
 04
Features
 Features of Prospect Theory

1 2 3 4
Certainty Small Relative Loss Aversion
Probabilities Positioning
humans show a people tend to people tend to focus people tend to give
strong preference for discount very small less on their final more weight to
the option with probabilities income or wealth losses rather than
certainty gains
 Example
Assume that the end result of receiving
$25. One option is being given $25
outright. The other option is being given
$50 and then having to give back $25. The
utility of the $25 is exactly the same in
both options. However, individuals are
most likely to choose to receive straight
cash because a single gain is generally
observed as more favorable than initially
having more cash and then suffering a
loss.
Thank you!
- Regachuelo, Alyssa C.