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Updating the Reference Level: Experimental Evidence

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Experimental Business Research

Abstract

Empirical findings suggest that in decisions under uncertainty people evaluate outcomes relative to a reference level: they are risk seeking in the domain of losses and risk averse in the domain of gains. This finding is used in the finance literature to predict/explain the “disposition effect,” which is the tendency of investors to sell assets that have gained value (“winners”) too early and ride assets that have lost value (“losers”) too long. The current experiment was designed to overcome some of the difficulties involved in using real market data to test the disposition effect. One of the main goals was to find evidence on how prior gains and losses influence the risk behavior of people, by shifting the reference level. The results were consistent with the disposition effect hypothesis. Furthermore, it was found that the data are best described by assuming that participants use the historical peak of the process as a reference level.

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Author information

Authors and Affiliations

  1. Graduate School of Business, The University of Chicago, 5807 South Woodlawn Avenue, Chicago, IL, 60637

    Uri Gneezy

Authors
  1. Uri Gneezy
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Editor information

Editors and Affiliations

  1. Department of Marketing, Hong Kong University of Science and Technology, Clear Water Bay, Kowloon, Hong Kong

    Rami Zwick

  2. Department of Management and Policy, University of Arizona, Tucson, AZ, 85721

    Amnon Rapoport

  3. Department of Economics, Hong Kong University of Science and Technology, Clear Water Bay, Kowloon, Hong Kong

    Amnon Rapoport

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Gneezy, U. (2005). Updating the Reference Level: Experimental Evidence. In: Zwick, R., Rapoport, A. (eds) Experimental Business Research. Springer, Boston, MA. https://doi.org/10.1007/0-387-24244-9_12

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