Abstract
We document outcome bias in situations where an agent makes risky financial decisions for a principal. In three experiments, we show that the principal’s evaluations and financial rewards for the agent are strongly affected by the random outcome of the risky investment. This happens despite her exact knowledge of the investment strategy, which can, therefore, be assessed independently of the outcome. The principal thus judges the same decision by the agent differently, depending on factors that the agent has no influence on. The effect of outcomes persists in a setting where principals communicate a preferred investment level. Principals are more satisfied with the agent after a random success when the agent did not follow the requested investment level, than after a failed investment that followed their explicit request.
Highlights
Whenever the quality of a decision is evaluated after its consequences have played out and have become public knowledge, there is a chance of falling prey to outcome bias
We show that the principal’s evaluations and financial rewards for the agent are strongly affected by the random outcome of the risky investment
The current findings suggest that financial agents seem to benefit from the rule that the result justifies the deeds
Summary
Whenever the quality of a decision is evaluated after its consequences have played out and have become public knowledge, there is a chance of falling prey to outcome bias. Outcome bias describes the phenomenon by which evaluators tend to take information about the outcome into account when evaluating the quality of a decision itself (Baron and Hershey 1988). Evaluation of outcomes may, be questionable and may lead to suboptimal future decisions if decision makers follow strategies that were successful only by chance (e.g., Bertrand and Mullainathan 2001, for managerial performance; or Sirri and Tufano 1998, for investors’ mutual fund choices). A good outcome might derive from a bad decision, and a bad outcome might derive from a good decision. Evaluation of outcomes may, be questionable and may lead to suboptimal future decisions if decision makers follow strategies that were successful only by chance (e.g., Bertrand and Mullainathan 2001, for managerial performance; or Sirri and Tufano 1998, for investors’ mutual fund choices).
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