The Effect Of Risk Propensity On The Reference Point Adaptation

The investigation of decision-making is a focus in the field of cognitive psychology. Prospect theory-the most popular theory in decision-making concludes that people derive utility from gains and losses relative to a reference point, not from total wealth. Many studies have found that the reference point is not fixed, it update through time as a function of outcomes of past decisions or other factors. However, most investigations were related to objective factors in decision-making, with little consideration to subjective factors (such as risk propensity, cognitive bias and personality factors, etc.), which may influence reference point adaptation. Risk propensity, one of important subjective factors, can influence decision-making behavior, but these studies did not thoroughly investigate how it works. So, we suppose that risk propensity influence decision-making behavior through reference point adaptation.We design three experiments to explore the impact of risk propensity on reference point adaptation. Experiment 1 study the impact on reference point adaptation after prior gain and loss in ideal condition, the intervention with selling and repurchasing and portfolio cases using questionnaire experiments. Since written test and a real investment vary greatly, and simulate the real scenario is nearly impossible, therefore the second experiment we use BDM(Becker, GM, Degroot, MH,& Marschak, J.1965) paradigm which has been made some improvement to study the impact on the reference point adaptation in the three different investment situations, the same as in the experiment 1. In order to verify in a real stock trading, the impact of risk propensity on the reference point adaptation. In the experiment 3, the stock price changes day by day, to explore how risk propensity affect the reference adaptation. Before every experiment, the subjects were divided two groups: adventuresome subjects and conservative subjects, using the risk propensity questionnaire.From the three experiments we derive several results:(1) The magnitude of reference point adaptation is significantly greater following a gain than following a loss of equivalent size (6 yuan).(2) In the ideal investment condition, the experiment 1 using written test found that the adventuresome subjects'magnitude of reference adaptation was grater than the conservative subjects, when the prior outcome was gain; the experiment 2 using the BDM paradigm found the effect whenever the prior outcome was gain or loss.(3) After the stock price changed (gain or loss), we inserted the operation of selling and repurchase. The experiment 1 and 2'results show that the magnitude of reference point adaptation in this case was grater than in the ideal condition; In this case, the effect of risk propensity is very prominent in the experiment 1 and 2.(4) In the portfolio condition, the written test and BDM paradigm derived different results:the written test showed that the magnitude of reference point adaptation in the overall gain condition is smaller than in the overall loss condition; the effect of risk propensity is not prominent. However, the BDM paradigm found that the effect of risk propensity was prominent, and the overall gain or loss did not influence the reference adaptation.From the results we can conclude that:The magnitude of reference point adaptation is significantly greater following a gain than following a loss of equivalent size; and the magnitude of reference point adaptation in the ideal condition is smaller than in the condition intervention with selling and repurchase operation. In the two conditions, adventuresome subjects'magnitude of reference point adaptation grater than conservative subjects, proving that risk propensity affects the adaptation of reference point to influence the decision-making behavior. In the portfolio condition, the two paradigms contradict each other, indicating that further studies are needed to investigate the reference point adaptation in the complex context.Through this study, in theory, we preliminary investigate the mechanism how risk propensity affects decision-making behavior; in real life, the study enable us to understand the investors' behavior better.