The second important insight offered by the value function relates to the central prediction of the model. Thus, the essence of decision-making involves a trade-off between values. That is, investors appear to choose portfolios as if they were operating with a time horizon of about one year. In perhaps the most dramatic demonstration of this effect, real-world patients suffering from cancer made different choices of whether to undergo surgery or chemotherapy for treatment of their illness based on whether the outcome percentages were presented in terms of survival or mortality. Loss aversion is a natural human tendency that exists to keep us from incurring losses. L oss aversion, sometimes known as ‘the prospect theory’, is a type of cognitive bias which is commonly used in UX and marketing areas; it’s often referenced by economists rather than psychologists. We react more strongly to moments of loss — in the form of frustration or confusion that may occur during an interaction with a website or an app. Copyright © 1998-2020 Nielsen Norman Group, All Rights Reserved. They made loss aversion a central part of their prospect theory, which explains human decision making in situations when outcomes are uncertain. (2008). They simultaneously apply less psychological weight to medium- and high-probability outcomes than are normatively warranted. In most situations, this reference point is assumed to refer to the person’s current status quo position, but this is not necessarily required within the confines of the model. Regardless of the normative imprimatur of such advice, this does not accurately characterize how most people make decisions. We dub this combination 'myopic loss aversion'. Navigate parenthood with the help of the Raising Curious Learners podcast. Author/Copyright holder: Nicu Buculei. – Relative Positioning:humans are less interested in their final income and wealth than their relative gains and losses. Most frequently, these are referred to as framing effects. (The order here is also important — were we to first lose $80, then come back and win $100, it would shift our reference point and make it feel like a net gain!). Remembering all the details of each individual option creates too much of a cognitive load, so it only makes sense to focus on the differentiators. If we can uncover people’s concerns through user research, we can provide information to help them overcome those fears or objections. In the next lecture we will continue with another aspect of prospect theory. Aurora Harley is a Senior User Experience Specialist with Nielsen Norman Group. June 19, 2016. First, people treat outcomes that are deemed to be either certain or impossible very differently than those whose changes take place in the midrange of probability. FFirst, in prospect theory, people derive utility from irst, in prospect theory, people derive utility from gains and losses, measured relative measured relative This is because the silver medalist was looking forward to being number one by … Prospect Theory: An Analysis of Decision under Risk. 3. To persuade users to take an action, consider using the certainty bias to your advantage: people would rather accept a small but certain reward over a mere chance at a larger gain. For example, prospective users may be unwilling to begin an application process online because they fear it would take too much time, or require information not readily available. When everything works as expected, people consider that the norm. Show abstract. If you offer a reward for users who write a product review, for example, consider giving all reviewers a coupon for 10% their next purchase. She also conducts independent research for NN/g, and regularly leads training courses on mobile usability, UX strategies, psychology and UX, and analytics. Purchasing insurance plans is an excellent example of the prospect theory at work. Subscribe to our Alertbox E-Mail Newsletter: The latest articles about interface usability, website design, and UX research from the Nielsen Norman Group. He asks his students; ''I'm going to toss a coin, and if it's tails, you lose $10. For example, what would you choose: to get $900 or take a 90% chance of winning $1000 (and a 10% chance of winning 0)? Prospect theory is characterized by: – Certainty:when presented with options, humans will nearly always choose the one with certainty. This function differs from standard normative models by including a left-hand side to the graph that represents how people respond to loss. It reflects a prevalent avoidance behaviour involving choices that could lead to losses. Please select which sections you would like to print: Corrections? Prospect theory encompasses two distinct phases: (1) an editing phase and (2) an evaluation phase. In fact, in order to achieve more certainty, people are willing to sacrifice income. https://www.britannica.com/topic/prospect-theory, University of Zurich - Prospect Theory: An Analysis of Decision Under Risk, Columbia University - Prospect Theory as Efficient Perceptual Distortion, Princeton University - Prospect Theory: An Analysis of Decision Under Risk, The University of Oklahoma - Prospect Theory, Rational Choice and International Relatons, University of California San Diego - Radi School of Management - Prospect Theory. The classic demonstration of this effect took place in the so-called Asian disease paradigm, in which people were asked to make a choice among public policy plans for responding to a disease outbreak. on We are designing for users who are hard to please. People can respond very differently to negatively framed messages than they would to a positively framed one. They then could choose between: Scenario 2: Participants started with $2000. And prospect theory explains all that. (Options A and C are likewise equivalent.) UX designs should frame decisions (i.e., questions or options given to users) accordingly. While with option 2, … Research done by these Israeli-born psychologists on cognitive biases and bounded rationality was path breaking. In 1979, Daniel Kahneman and Amos Tversky came up with the Prospect Theory. Econometrica, 47(2), 263-291. The first element is graphically represented by the value function. First, the model examines the way in which value is related to the original reference point, or the start of action or choice. Although the actual statistical probabilities remained identical, the percentage of people supporting a given plan changed dramatically based on whether or not the outcomes were presented in terms of the number of people who would live versus the number of people who would die. Kahneman, D., & Tversky, A. In expected utility theory, risk aversion is equivalent to the concavity of the utility function. He was awarded the 2002 Nobel Prize in Economics for his work in Prospect Theory, which revealed an important element of behaviour under risk: the phenomenon known as loss aversion. McDermott is the David and Marianna Fisher University Professor of International Relations at Brown University in Providence, Rhode Island. Some studies have suggested that losses are twice as powerful, psychologically, as gains. Scenario 1: Participants started with $1000. The perceived likelihood of a major health problem is greater than the actual probability of such an event actually occurring. Changing the framing of the problem (by adjusting the initial gift and the options accordingly) led people to a different decision. (1979). It was not originally intended to provide wider generalization beyond that domain, although it has subsequently been used to explain a wide variety of phenomena across many fields, including law, political science, and economics. Be on the lookout for your Britannica newsletter to get trusted stories delivered right to your inbox. Loss-Aversion with Kinked Linear Utility Functions. For example, insurance websites frequently display a long list of unlikely, yet costly outcomes that we may encounter should we not buy insurance. These types of behaviors cannot be easily explained by the expected-utility approach. Understanding these biases can help persuade people to take action. 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