Document Type
Other
Keywords
[ECUPub], Cumulative prospect theory, stochastic process, probability-weighting function, Monte Carlo simulation
Publisher
Edith Cowan University
Place of Publication
Joondalup, Western Australia
Faculty
Faculty of Business and Public Management
School
School of Finance and Business Economics
Abstract
It is well known that individuals treat losses and gains differently and there exists non-linearity in probability. The asymmetry between gains and losses is highlighted by the reflection effect. The non-linearity in probability is described by the curvature of the probability-weighting function. This paper studies the evolution of the probability-weighting function. It is assumed that the probability weighting for an individual follows a mean-reverting stochastic process. The Monte Carlo simulation technique is employed to study the evolution of the weighting function. The evolution of the probability- weighting function implies that an individual does not treat gains or losses consistently over time, this may be due to the change of the individual’s psychological status.
Comments
Li, S., & Cheung, Y. (2001). On the evolution of probability-weighting function and its impact on gambling. Joondalup, Australia: Edith Cowan University.