Loss Aversion Theory Research Articles

Information search process model based on costs and benefits: a behavioural economics perspective

PurposeThis study constructed an information search process model based on costs and benefits to reflect different information search processes under different decisions from a behavioural economics perspective.Design/methodology/approachThis study used a deductive approach to conceptualise the costs, benefits, and uncertainties of the information search process. Subsequently, we constructed an information search process model based on the costs and benefits using graphical reasoning, loss aversion theory, bounded rationality theory, the satisficing theory of behavioural economics, and the uncertainty changes of information search process.FindingsThe model revealed four types of user behaviours in the information search process: (1) avoiding search at the initiation of the search process; (2) exiting in the middle of a search; (3) stopping at the point of satisficing; and (4) continuing the search until experiencing physical discomfort.Originality/valueThe model constructed in this study treats the information search as a process based on costs and benefits with uncertainty. This model integrates information search avoidance and stopping into an information search process model. The model identifies users’ bounded rationality by evaluating ideal and real situations. Moreover, the model explains relative and absolute information overloads and the area beyond the user’s bounded rationality. These findings could help improve users’ information literacy and optimise information systems.

The Endowment Effect in Corporate Mergers and Acquisitions and Its Impact on Merger Premiums

Ignoring income effects and transaction costs, the price individuals are willing to pay for an item should be equal to the price they are willing to sell it for. However, Professor Thaler discovered some "anomalous" phenomena in real life where individuals assign higher value to the items they possess, leading to inconsistency between the "willingness to pay" and "willingness to sell" prices. This phenomenon is often used in the analysis of behavioural economics and is linked to the theory of loss aversion. Thaler explained these anomalies using loss aversion from prospect theory and referred to this phenomenon as the endowment effect. The paper conducts a multiple regression analysis to investigate the existence of the endowment effect and its impact on the M&A premium, using a sample of 425 M&A events in which both parties were US-listed companies from 2010-2018. The results show that the endowment effect exists in the M&A process and significantly increases the M&A premium; the impact of the endowment effect on the M&A premium varies across M&A events in different industries, and the impact of the endowment effect is more prominent in the M&A of companies in emerging industries. It is recommended that acquirers should fully consider the increased M&A costs due to the endowment effect when evaluating target companies; industrial policy makers should consider the impact of the endowment effect on the efficiency of industrial integration.

Endowment Effect: Impact Factors and Influencing Mechanism

As a theoretical branch of behavioral economics, the endowment effect (EE) reflects the research method of behavioral economics, challenges the assumption that people are rational in traditional economics, and complements the deficiency of the Coase theorem by emphasizing that the phenomenon that people overvalue an item after owning, then it will affect the transaction of the item. In this paper, the author introduces the basic theories about the EE, analyzes the driving factors of the EE, and introduces the latest research findings on the basis of the loss aversion (LA) theory, providing readers with a new way to understand the EE. At the same time, as a link impressionable to the EE in the transaction, the author also analyzes and compares the research results of previous researchers on the influence of EE on the negotiation process, analyzes the reasons why the negotiation participants should avoid or reduce the influence of EE in the negotiation to achieve the goal of negotiation, and puts forward suggestions for the negotiators.

The optimal decision of e-retailer based on return-freight insurance – considering the loss aversion of customers

PurposeThe return behavior of customers has a great impact on the e-retail industry and has resulted in the emergence of return-freight insurance (RI). Additionally, customer loss aversion arising from returns affects e-retailers' decisions and manufacturers' profits. Therefore, the main purpose of the authors' study is to determine how e-retailers and manufacturers choose their RI strategy and pricing according to customers' loss aversion.Design/methodology/approachThe authors propose three scenarios: no RI, customer purchase RI and free e-retail RI (FRI). Meanwhile, the authors also model a Stackelberg game between e-retailers and manufacturers for analysis. Then, according to customer return behavior and loss aversion, the authors study the optimal pricing decision and RI premium allocation scheme for e-retailers and manufacturers under different scenarios.FindingsIt was found that the loss sensitivity reduces customers' willingness to buy RI, which is not conducive to the development of e-retailers and manufacturers. Additionally, with higher loss sensitivity, e-retailers and manufacturers offer FRI to gain higher profits, which supports the implementation of the FRI strategy.Originality/valueThe authors introduce customers' loss aversion into RI to analyze the optimal pricing decisions and profits of e-retailers and manufacturers, enriching the application of loss aversion theory. In addition, this study analyzes the two-way cost-sharing mechanism between manufacturers and e-retailers to provide FRI, which provides a theoretical basis for RI premium sharing.

Sales Strategy, Risk Investment and Property Rights Allocation: Analysis Based on Endowment Effect

The endowment effect suggests that people value what they have now and the status quo, and thereby want to avoid losing what they have or just step out of the comfort zone. Several scholars have identified and demonstrated that people’s utility is reduced by a given quantity of loss more than it is increased by an equal amount of gain. Due to the endowment effect, the decision-making process is out of balance, and are more likely to avoid harm rather than pursue profits. This paper reviews the concepts, experiments and applications of endowment effect and loss aversion theory in behavioral economics. Furthermore, it explains endowment effect using three economic applications of sales strategy, risk investment and property rights allocation. In all the three economic applications, people’s economic behavior totally conforms to the endowment effect: people buy things that they don’t need, make the investment irrationally, or bring trade frictions. Due to its commonness, endowment effect has been widely tested and applied, attracting heated discussion among academia research and policy regulators. In this sense, this paper also provides us a good understanding of endowment effect and behavior economics.

Loss aversion and risk propensity in public budgeting

PurposeThis paper applies the theory of loss aversion to public budgeting. It seeks to understand how loss aversion affects recommended budget amounts in two scenarios, one with explicit and one with implied risk levels. It also furthers the understanding of how the personality trait of risk propensity moderates recommended budget amounts in these scenarios.Design/methodology/approachUtilizing original data gathered from experimental vignettes, 339 US-based participants provided budget recommendations on two separate federal education programs. Participants were current budget professionals and master's-level students. One program utilizes a risky choice frame scenario while the other uses a goal frame scenario.FindingsParticipants are more likely to select a risky program option when the options are framed in terms of loss. Additionally, participants recommended larger budgets when they select the riskier program option. When presented with program goals, participants budget more when the goals are framed in terms of loss as opposed to gains. Results on participant risk propensity are mixed.Practical implicationsThe discussion section includes multiple recommendations on how managers can approach budgeting with the intent of obtaining the most efficient budget allocation for the programs under their control.Originality/valueThe study is the first to examine framing and risk propensity in budgeting using two different types of framed messaging. Additionally, it is the only study to ask participants to recommend a budget amount after selecting a risky choice option. Therefore, results are more relevant to the entire process of public budgeting. Also, the study includes a mixture of participants with and without finance experience, providing insight into how different public employees allocate funds.

The Introduction of Loss Aversion and Applications in Business, Sports and Government

The theory of loss aversion has been developed for a long time. Loss aversion has been widely used in real life and our economic development. This article provides a detailed introduction to loss aversion in behavioral economics. To give people a better understanding, this article will show three applications which are including business, sports and government so that prove loss aversion makes people more afraid of losing than gaining. We believe that this paper will make everyone better understand their hesitant behavior in making decisions and avoid big losses due to small mistakes. This paper puts forward some suggestions to provide some reference for everyone to make better decisions in government departments.

The impact of demonetization on microfinance institutions

Microfinance institutions (MFIs) must balance financial and social goals. When these coopetitive goals are under threat, which goals do MFIs prefer? Based on the theory of myopic loss aversion, our study aims to assess the immediate effect of the 2016 demonetization in India on MFIs and their loan portfolio performance and on unintended social outcomes. Using the 2016 demonetization in India as a quasi-experiment, we find that MFIs had a lower 30-day and 90-day portfolio at risk (PAR) and implemented better client protection terms. In addition, demonetization had a small but positive effect on developing start-up enterprises and serving more clients below the poverty line. Last, we find that MFIs investing in female client education presented a lower PAR after demonetization. Overall, our study sheds light on the unintended consequences on MFIs as a result of the demonetization event, and it provides policy implications for MFIs.

Stick or carrot for traffic demand management? Evidence from experimental economics

The debate between stick (penalties) and carrot (rewards) strategies has been widely carried out in various academic realms, including transportation. This paper seeks to compare the instantaneous and longitudinal effectiveness of a traditional penalty-based congestion pricing strategy and an innovative Incentive-Based Traffic Demand Management (IBTDM) strategy using an online interactive laboratory experiment focused on departure time choice. We also investigate the social-economic phenomena of loss aversion and risk aversion. The experimental results show that penalties and rewards can both positively induce sustainable travel behavior. The stronger demand-shifting performance of the penalty-based strategy at first demonstrates that ‘loss aversion’ does exist in TDM, at least initially. However, this loss aversion weakens as the experiment continues, which verifies the myopic loss aversion theory. Moreover, risky decision-making in the gambling games proves the existence of risk seeking, which violates the ‘certainty effect’. To overcome the disadvantage of laboratory experiment that participants need to accomplish the experiment all in once for considerably long time, an agent-based model is calibrated based on real participants’ behavior to further verify the long-term effectiveness of penalties and rewards, and to verify the effectiveness of other optimized penalty/reward schemes. The simulated results based on the agent-based model indicate that the theoretical optimal penalty scheme performs better in general in congestion alleviation, while a more reasonable reward scheme that considers psychological factors can achieve the same effectiveness in terms of total system travel time reduction. The findings of this research can be used to guide the design of TDM strategies, and the behavioral data collection approach based on our laboratory experiment is portable for future studies.

How an incineration tax changes waste management practices among firms

Sustainable management of industrial plastic waste is crucial in the transition to a circular economy. Today, most industrial plastic waste is incinerated, whereas it could be recycled. As a consequence, governments increasingly make use of incineration taxes to improve current waste management practices. This paper presents an econometric panel analysis that studies the effects of an incineration tax on industrial plastic waste in Flanders (Belgium). Not only is this study the first econometric analysis on industrial plastic waste management in which firm heterogeneity is explicitly taken into account by including firm-specific characteristics, but this study also provides policymakers with insights into the effectiveness of an incineration tax to change current waste management practices. Empirical estimates imply that heterogeneous firms generate industrial plastic waste in different ways and that heterogeneous firms reduce their waste generation in different ways after the incineration tax rate increases. The estimates also show that the unique decrease of the incineration tax in 2007, did not change waste management practices. These estimates show that firms do not disinvest or indicate that loss aversion theory, i.e. a preference for avoiding losses over acquiring equivalent gains, might apply to firms that are faced with environmental taxation in a waste management context.

The applicability of prospect theory in examining drivers’ trip decisions, in response to Electronic Road Pricing (ERP) rates adjustments - a study using travel data in Singapore

The Electronic Road Pricing (ERP) system in Singapore has been in operations since 1998 and has seen consistent levels of success in managing traffic in this city-state with high vehicle usage and limited land space. With the ERP rates reviewed quarterly and adjusted for the relevant 30-min periods based on speeds criteria, the volume of data collected through the years has enabled a closer look at how motorists behave with rate increases or decreases, and how these travel behaviors compare with the established consumer behavior phenomenon of loss aversions and the theory of diminished sensitivity. This paper studied 33 rate changes across 6 expressway ERP pricing gantries between the years of 2012 and 2018, and derived precise observations of travel behavior changes. The data showed that frequent car drivers tend to make more deliberate choices on whether to leave or stay on their routes. Frequent car drivers are defined as those who drive past that gantry at least 60% of the weekdays in that month (proportionally around 3 weekdays per week). We also affirmed that loss aversion theory is exhibited in road pricing through the higher demand elasticities observed from $1 rate increases as compared to the $1 rate reductions. Interestingly however, the theory of diminishing sensitivity did not seem to drive traveler’s decisions here. Instead, Singapore drivers appeared to have assessed their trip decisions based on two reference points during rate increases; a primary reference point of $2 and a reasonable reference point of $5.

An Evolutionary Theory of Overconfidence and Loss Aversion in Adaptive Markets

An Evolutionary Theory of Overconfidence and Loss Aversion in Adaptive Markets

An Evolutionary Theory of Overconfidence and Loss Aversion in Adaptive Markets

An Evolutionary Theory of Overconfidence and Loss Aversion in Adaptive Markets

An Experimental Economic Study of Loss Aversion in Stock Trading Decisions

The disposition effect is a form of behavioral bias that tends to result in investors holding on to their losing stocks for too long and selling winning stocks too soon. It can be explained by the behavioral economics theory of loss aversion. Even though many have studied this kind of behavioral bias in a variety of different countries, none of them have investigated the disposition effect in the case of Thailand. Therefore, the main objective of our study is to test the disposition effect among Thais by applying the experimental economic approaches of Weber & Camerer (1998) and Odean (1998) whilst also including the findings from questionnaires and interviews. We set up a simulation stock trading market to test the disposition effect of participants regardless of whether they had stock trading experienced or not. Subjects were required to trade among six stocks in 14 trading periods. We also added three more periods to test how different types of news impacted the subjects’ trading decisions. In addition, we analyzed socioeconomic factors that affect disposition effect behavior by using an econometric binary choice model. We found that this experiment can exhibit the disposition effect of subjects in terms of overall and individual measurement. In normal stock trading situations, we found that over 70% of subjects showed clear signs of the disposition effect, which seemed to decrease after they received fictional news.

Investigating Indian Retail Investor Behavior through the lens of Prospect Theory

The paper explores how prospect theory of loss aversion (Kahneman & Tversky 1979) can help explain retail investor behavior in India with respect to small-cap and mid-cap stocks during periods of crisis which may influence emotional sentiments as well as stock markets. Two distinctly separate periods were analyzed and compared: the Great Recession (2008-09) and the COVID-19 global pandemic (2020-21). A combination of qualitative and quantitative methods was used – a literature review of past studies, detailed interviews with experts, and cross-correlation analysis sentiment and market indices. Statistical correlation analysis of investor sentiment was done versus stock market index movement during the two time periods. Results indicate that positive sentiment and negative sentiment have immediate-term positive and negative relationship respectively with investor behavior, and how loss aversion was stronger during 2008 than 2020. Study also identifies differences in reference points between the two periods, which is consistent with prospect theory in terms of the role of reference point in determining degree of loss-aversion. Expert interviews identified multiple factors such as prior experience with market losses, governmental actions, younger demographics, easier market participation due to technology in 2020 caused the reference point to be different from 2008. Further research needed to understand why the sentiments have an immediate effect on investor behaviors but not in future periods. In contrast, movements in stock markets were seen to have both immediate and future period relationships with sentiment, which suggest some role of herding which needs to be further investigated in future studies.

Product Attributes, Evaluability, and Consumer Satisfaction

We studied the determinants of consumer satisfaction with mobile phones on the basis of their perceived product attribute performance, and the disconfirmation of product attribute expectations. Disconfirmation refers to the discrepancy between the prior expectation about the performance of a product’s attributes, and its perceives realizations after purchase. Evaluability theory assumes that the perceived attribute performance has a larger effect on consumer satisfaction for easy-to-evaluate than for difficult-to-evaluate attributes, after product acquisition. Furthermore, we used predictions of the asymmetric evaluations of gains (product performs better than expected) and losses (product performs worse than expected) from prospect theory, in combination with evaluability theory. We studied how evaluability influences the effects of the asymmetric evaluations of both positive and negative disconfirmation of product attribute expectations on consumer satisfaction. Our empirical study included 3099 participants of Amazon Mechanical Turk. We found that negative attribute disconfirmation had a larger effect on satisfaction than positive attribute disconfirmation, which is in line with loss aversion theory. Although the perceived product attribute performance positively influenced satisfaction, we found little support for the effects of perceived attribute performance being influenced by attribute evaluability. However, our findings indicated that negative attribute disconfirmation influenced satisfaction to a greater extent for relatively difficult-to-evaluate attributes than for relatively easy-to-evaluate attributes. We discuss both theoretical and managerial implications of our findings.

Until you have something to lose! Loss aversion and two-factor authentication adoption

Purpose In this study, the authors seek to understand factors that naturally influence users to adopt two-factor authentication (2FA) without even trying to intervene by investigating factors within individuals that may influence their decision to adopt 2FA by themselves. Design/methodology/approach A total of 1,852 individuals from all 34 provinces in Indonesia participated in this study by filling out online questionnaires. The authors discussed the results from statistical analysis further through the lens of the loss aversion theory. Findings The authors found that loss aversion, represented by higher income that translates to greater potential pain caused by losing things to be the most significant demographic factor behind 2FA adoption. On the contrary, those with a low-income background, even if they have some college degree, are more likely to skip 2FA despite their awareness of this technology. The authors also found that the older generation, particularly females, to be among the most vulnerable groups when it comes to authentication-based cyber threats as they are much less likely to adopt 2FA, or even to be aware of its existence in the first place. Originality/value Authentication is one of the most important topics in cybersecurity that is related to human-computer interaction. While 2FA increases the security level of authentication methods, it also requires extra efforts that can translate to some level of inconvenience on the user's end. By identifying the associated factors from the user's ends, a necessary intervention can be made so that more users are willing to jump on the 2FA adopters' train.

In praise of dystopias: a Hobbesian approach to collective action

ABSTRACT Long before Prospect Theory and Loss Aversion Theory, Thomas Hobbes’s account of self-interest and risk assessment formed the basis of a powerful argument for the benefits of negative appeals. Dismissing the pursuit of highest and final goods as inherently incapable of yielding collective action, Hobbes proposed a method focusing instead on the highest evil, something that individuals with different goals could agree on as a barrier to their respective pursuits. In his own theory, that evil was violent death in the dystopian setting of his notorious state of nature. The staying power of Hobbes’s memorable image itself validates Hobbes’s rationale and offers important reminders regarding the limits of utopian appeals to collective action.

ANOMALI PASAR MODAL MENUJU STUDI BEHAVIORAL ECONOMICS

Abstract- This research examine market anomali that used to be found in capital market. There are 3 (three) common market anomalies that observed by financial researcher, holiday effect (in this case Lebaran Effect), January effect and Monday effect. The goal in this empirical study is to confirm and examine these anomalies on consumer goods firms. One of most common misleading statement that would like to be argued by this research is on Lebaran Season; most likely consumer goods stocks would be the most wanted and highest return. Dummy variables are applied in research model to test research hypothesis regarding to this issue. Research models are analyzed using OLS approach and the result is indeed finding some anomali in Lebaran, January and Monday Effect. But the result from adjusted R2 is very low (<1%) which implies that explanatory power of event to abnormal return is need a critic and improvement. Further result from loss aversion theory confirms that most of Indonesian Citizen play save strategy under sure loss condition.
 
 Keywords: Capital Market Anomali, EMH, Lebaran Effect, January Effect, Monday Effect, Behaviour Economics

A systematic test for myopic loss aversion theory

PurposeMyopic loss aversion, or the combination of loss aversion and frequent portfolio evaluation, has been argued to possibly be one of the factors behind the equity premium puzzle. The purpose of this paper is to offer an alternative systematic test that looks at the relationship between inflation and equity premium to test for this theory.Design/methodology/approachInflation and equity premium tends to be positively associated, both in standard rational-agents theoretical models and in simple empirical measures of correlation. Nonetheless, under the presence of nominal return evaluation, behavioral models such as myopic loss aversion do predict a negative causal relationship between those variables. This study aims to check this negative causal relationship. The identification strategy combines elements of two approaches: fixed effects regression on short-term returns and long-term least squares regression. As both methods have different strengths and weaknesses, and use different sources of data variation to compute their estimators, it is argued that the combination of these approaches provides a better identification strategy than each individual method.FindingsThis paper finds evidence for a negative relationship between inflation and equity premium in both methods, which supports myopic loss aversion theory. The magnitude of the coefficients is also relevant ranging from −0.23 to −0.80. However, it is also shown that these effects explain only a small part of equity premium observed variation, and are more prevalent in non-industrialized countries, which limits the scope of the theory.Originality/valueThe current method for testing myopic loss aversion theory is overly reliant on experimental evidence collected in the lab to estimate behavioral parameters and simulations. The authors complement these by providing an empirical study.