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Behavioral Finance
Loss Aversion
Losses hurt twice as much as gains feel good
~20 min · 5 lessons
What you'll learn
- ✓Explain loss aversion
Lessons
- 💔The AsymmetryWhy losing 100 dollars hurts twice as muchStart →
- Prospect TheoryFinish the previous lesson to unlock
- The Disposition EffectFinish the previous lesson to unlock
- Checking and Coffee MugsFinish the previous lesson to unlock
- CuresFinish the previous lesson to unlock
Sources
All content is drawn from the sources below. We deliberately avoid unverified material.
- Prospect Theory: An Analysis of Decision under RiskEconometrica 47, pp. 263-291 · academicKahneman and Tversky 1979. The original paper introducing prospect theory, reference dependence, and loss aversion. Source for Lessons 1 and 2 (the 2-to-1 ratio, reference points, diminishing sensitivity, probability weighting).https://www.jstor.org/stable/1914185
- The Disposition to Sell Winners Too Early and Ride Losers Too LongJournal of Finance 40, pp. 777-790 · academicShefrin and Statman 1985. The paper that named and modeled the disposition effect. Backs Lesson 3.https://onlinelibrary.wiley.com/doi/10.1111/j.1540-6261.1985.tb05002.x
- Are Investors Reluctant to Realize Their Losses?Journal of Finance 53, pp. 1775-1798 · academicOdean 1998. Empirical replication of the disposition effect using 10,000 brokerage accounts. Confirms the tax-inefficient pattern in real data. Backs Lesson 3.https://onlinelibrary.wiley.com/doi/10.1111/0022-1082.00072
- Myopic Loss Aversion and the Equity Premium PuzzleQuarterly Journal of Economics 110, pp. 73-92 · academicBenartzi and Thaler 1995. Links short evaluation horizons to loss-averse avoidance of equities. Source for the 'don't check your portfolio every day' point in Lesson 4.https://academic.oup.com/qje/article-abstract/110/1/73/1869154
- The Endowment Effect and Evidence of Nonreversible Indifference CurvesAmerican Economic Review 79, pp. 1277-1284 · academicKnetsch 1989. The coffee-mug experiment used in Lesson 4. Companion to Kahneman, Knetsch and Thaler 1990 in JPE on the same topic.https://www.jstor.org/stable/1831454
- Thinking, Fast and SlowFarrar, Straus and Giroux · bookKahneman 2011. Plain-language treatment of prospect theory, loss aversion, reference dependence, and probability weighting. Used as a writing reference for Lessons 1 and 2.
- Misbehaving: The Making of Behavioral EconomicsW. W. Norton · bookThaler 2015. Source for the practical cures in Lesson 5: pre-commitment, holistic accounts, and automatic rebalancing. Ch. 8 (the endowment effect) and Ch. 19 (retirement plans) are the most directly relevant.