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Richard GonzalezRichard Gonzalez

Center Director, Research Center for Group Dynamics, Institute for Social Research
Director, BioSocial Methods Collaborative, RCGD
Amos N Tversky Collegiate Professor, Psychology and Statistics, LSA
Professor of Marketing, Stephen M Ross School of Business
Professor of Integrative Systems and Design, College of Engineering


E-mail: Email Richard Gonzalez
Address: Research Center for Group Dynamics
Institute for Social Research
University of Michigan
426 Thompson Street
Ann Arbor, Michigan 48106
Phone: 734-647-6785

Testing prospect theory’s predictive accuracy

Oct 22, 2023 | Decision Making, Psychology

Gonzalez, R. & Wu, G. Composition rules in original and cumulative prospect theory. (2022). Theory and Decision, 92, 647-675. doi:10.1186/s12942-022-00305-4  PDF


Original and cumulative prospect theory differ in the composition rule used to combine the probability weighting function and the value function. We test the predictive power of these composition rules by performing a novel out-of-sample prediction test. We apply estimates of prospect theory’s weighting and value function obtained from two-outcome cash equivalents, a domain where original and cumulative prospect theory coincide, to three-outcome cash equivalents, a domain where the composition rules of the two theories differ. Although both forms of prospect theory predict three-outcome cash equivalents very well, at the aggregate level, we find small but systematic under-prediction of cash equivalents for cumulative prospect theory and small but systematic over-prediction of cash equivalents for original prospect theory. We also observe substantial heterogeneity across subjects and types of gambles, some of which is accounted for by differences in the curvature and elevation of the weighting function across individuals. We also find differences in prediction related to whether the worst outcome is zero or non-zero.