|
on Utility Models and Prospect Theory |
| By: | Alex Stomper (MIT and IAS Vienna); Marie-Louise Vierø (Queen's University) |
| Abstract: | This paper derives conditions under which the well-known decomposition of unconditional expected utility into marginal probabilities and conditional expected utility generalizes to Cumulative Prospect Theory, as well as updating rules for probability weighting functions. The results are, for example, of interest for empirical and experimental work, when available choice data is for situations where payoffs given the conditioning events are random. |
| Keywords: | Cumulative Prospect Theory, probability weighting functions, conditioning, updating |
| JEL: | D80 D84 |
| Date: | 2009–12 |
| URL: | http://d.repec.org/n?u=RePEc:qed:wpaper:1228&r=upt |
| By: | Kaizoji, Taisei (kaizoji@icu.ac.jp) |
| Abstract: | The aim of this paper is to provide one potential theoretical explanation for questions how asset bubbles come about, why it persists, and what caused it to burst. We propose a new model of bubbles and crashes. We divide the risky assets into two classes, the bubble asset and the non-bubble asset, and the risk-free asset. Investors are divided into two groups, the rational investors and the noise traders. The rational investors maximize their expected utility of their wealth in the next period. Noise traders maximize their random utility of binary choice: holding the bubble asset and holding the risk-free asst. We demonstrate that noise-traders’ herd behavior, which follows the behavior getting a majority, occurs when the number of noise-traders increases, and their herd behavior gives cause to a bubble, and their momentum trading prolongs bubble. However, rising stock price slows down as the noise-trader’s behavior approaches to a stationary state, so that the price momentum begins to decrease in the second half of bubble. We demonstrate that decreasing the price momentum lead to market crash. |
| Keywords: | Bubble; chrash; noise traders; rational investors |
| Date: | 2010–01–10 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:20352&r=upt |
| By: | Janko Gorter; Paul Schilp |
| Abstract: | We analyze a clear-cut example of choice under uncertainty, namely deductible choice in the Dutch health insurance market. The unique institutional features of this market enable us to examine demand-side choices that only vary in their financial parameters. Using a rich dataset, we investigate the theoretical determinants of deductible choice. In line with expected-utility theory, we find that healthier, wealthier and more risk-tolerant consumers choose higher levels of deductibility. Consumer choice for financial risk is thus driven by various considerations, not only by risk type. Heterogeneity in risk preferences seems at least as important in explaining financial risk-taking. These results are not only relevant to insurance markets but to all markets where consumers decide on financial risk. |
| Keywords: | Financial Risk; Risk Tolerance; Adverse Selection; Deductible; Insurance |
| JEL: | D12 D81 G22 |
| Date: | 2010–01 |
| URL: | http://d.repec.org/n?u=RePEc:dnb:dnbwpp:238&r=upt |
| By: | Sergiu Hart |
| Abstract: | Stochastic dominance is a partial order on risky assets (“gamblesâ€) that is based on the uniform preference, of all decision-makers (in an appropriate class), for one gamble over another. We modify this, first, by taking into account the status quo (given by the current wealth) and the possibility of rejecting gambles, and second, by comparing rejections that are substantive (that is, uniform over wealth levels or over utilities). This yields two new stochastic orders: wealth-uniform dominance and utility-uniform dominance. Unlike stochastic dominance, these two orders are complete: any two gambles can be compared. Moreover, they are equivalent to the orders induced by, respectively, the Aumann–Serrano (2008) index of riskiness and the Foster–Hart (2009a) measure of riskiness. |
| Date: | 2010–02 |
| URL: | http://d.repec.org/n?u=RePEc:huj:dispap:dp531&r=upt |
| By: | Gary Bornstein; Ori Weisel |
| Abstract: | Explaining human cooperation in large groups of non-kin is a major challenge to both rational choice theory and the theory of evolution. Recent research suggests that group cooperation can be explained assuming that cooperators can punish non-cooperators or cheaters. The experimental evidence comes from economic games in which group members are informed about the behavior of all others and cheating occurs in full view. We demonstrate that under more realistic information conditions, where cheating is less obvious, punishment is ineffective in enforcing cooperation. Evidently, the explanatory power of punishment is constrained by the visibility of cheating. |
| Date: | 2009–12 |
| URL: | http://d.repec.org/n?u=RePEc:huj:dispap:dp528&r=upt |