PROSPECT THEORY – THE KEY TENETS AND THE CHALLENGES

Povzetek

The paper provides a comprehensive overview and insights on the key tenets and challenges of prospect theory. It benefits the professionals to select appropriate framework for their investors to support business growth and achieve sustainability. Based on review of literature and other secondary data sources loss aversion, reference dependence, diminishing sensitivity, decision weights (probability distortion), changes in risk attitude are some major tenets of this theory. Loss aversion is a cognitive bias where individuals are strongly motivated to avoid losses or psychologically, they perceive loss is more severe than an equivalent gain. Where people selecting an existing reference point or status quo to evaluate their outcomes that explains reference point dependence. The diminishing sensitivity describes people are more sensitive to price changes. When making decisions under risk, decision weights explaining how individuals perceive and evaluate probabilities. Individuals’ risk seeking and risk aversion attitudes may vary depend on how they frame choices. The present study helps to recognize the constructive and adverse tendencies of these concepts and explore more effective strategies in financial and public policy making.