Thursday, 11 March 2010

Prospect Theory and "Psychological Finance"

Theory that describes decisions between alternatives that involve risk, i.e. decisions between uncertain outcomes where probabilities are known. The model is DESCRIPTIVE i.e. attempts to model real-life choices, rather than optimal decisions.

It was developed by Kahneman(Princeton) and Tversky in 1979 as a pyschologically realistic alternative to expected utility theory. The theory describes how individuals evaluate losses and gains.

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