Looking at prospect theory

Abstract

Abstract This paper demonstrates that prospect theory's (PT) predictions differ dramatically from what strategy scholars have inferred. PT's value function predicts negative risk‐return associations for high performers and positive for low performers, directly contrary to the strategy literature. In addition, PT's isolation assumption means most firm choices should appear as mixed gambles. Prior PT‐based theorizing in strategy implicitly assumed that the firm faced unmixed gambles. Finally, it demonstrates that PT does not make the general predictions most strategy researchers have assumed, but rather PT's predictions depend on a full range of parametric and choice characteristics that strategy scholars have ignored. Copyright © 2010 John Wiley & Sons, Ltd.

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