Salience Theory of Choice Under Risk

48 Pages Posted: 27 Sep 2010 Last revised: 12 Apr 2023

See all articles by Pedro Bordalo

Pedro Bordalo

University of London, Royal Holloway College - Department of Economics

Nicola Gennaioli

Bocconi University - Department of Finance

Andrei Shleifer

Harvard University - Department of Economics; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Date Written: September 2010

Abstract

We present a theory of choice among lotteries in which the decision maker's attention is drawn to (precisely defined) salient payoffs. This leads the decision maker to a context-dependent representation of lotteries in which true probabilities are replaced by decision weights distorted in favor of salient payoffs. By endogenizing decision weights as a function of payoffs, our model provides a novel and unified account of many empirical phenomena, including frequent risk-seeking behavior, invariance failures such as the Allais paradox, and preference reversals. It also yields new predictions, including some that distinguish it from Prospect Theory, which we test. We also use the model to modify the standard asset pricing framework, and use that application to explore the well-known growth/value anomaly in finance.

Suggested Citation

Bordalo, Pedro and Gennaioli, Nicola and Shleifer, Andrei, Salience Theory of Choice Under Risk (September 2010). NBER Working Paper No. w16387, Available at SSRN: https://ssrn.com/abstract=1683137

Pedro Bordalo (Contact Author)

University of London, Royal Holloway College - Department of Economics ( email )

Royal Holloway College
Egham
Surrey, Surrey TW20 0EX
United Kingdom

Nicola Gennaioli

Bocconi University - Department of Finance ( email )

Via Roentgen 1
Milano, MI 20136
Italy

Andrei Shleifer

Harvard University - Department of Economics ( email )

Littauer Center
Cambridge, MA 02138
United States
617-495-5046 (Phone)
617-496-1708 (Fax)

HOME PAGE: http://www.economics.harvard.edu/~ashleife/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

European Corporate Governance Institute (ECGI)

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

HOME PAGE: http://www.ecgi.org

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
143
Abstract Views
2,289
Rank
366,852
PlumX Metrics