History-Dependent Risk Attitude, Second Version
We propose a model of history-dependent risk attitude, allowing a decision maker’s risk attitude to be affected by his history of disappointments and elations. The decision maker recursively evaluates compound risks, classifying realizations as disappointing or elating using a threshold rule. We establish equivalence between the model and two cognitive biases: risk attitudes are reinforced by experiences (one is more risk averse after disappointment than after elation) and there is a primacy effect (early outcomes have the greatest impact on risk attitude). In dynamic asset pricing, the model yields volatile, path-dependent prices.
|Date of creation:||14 Feb 2011|
|Date of revision:||14 Jul 2012|
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Web page: http://economics.sas.upenn.edu/pier
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