“Prospect Theory: An Analysis of Decision Under Risk” by Daniel Kahneman and Amos Tversky is one of my favorite journal articles of all time.
One of the ideas that stood out to me was the manner in which people think about probabilities, or the likelihood that something will happen.
People have a tendency of not thinking about the probability of an event, but rather the impact of that event. And this is reflected in their decision making process.
For instance, assume I’m about to toss a coin.
If I asked you to choose between head and tails, you will probably pick one side at random. Why? Because you know that every coin has a 50% chance of giving you a Head and a 50% chance of giving you a Tail.
What if, before flipping the coin, I told you that I will give you $1000 if the outcome is Heads?
Most people will subconsciously weigh “Heads” more valuable than “Tails” - even though the likelihood of either option is still 50% each!
This human tendency to subconsciously overweigh the likelihood of an outcome is the reason why people continue to gamble. The probability of winning the big payout is very, very small. But since the impact of winning is BIG, gamblers overweigh their chances and continue to gamble.
My key takeaway is simple. You might be thinking you don’t gamble, or engage in other socially unacceptable behaviors. But I want you to think about how you are handling your health or finances. Who knows, your preferences might just be revealing how you are underweighing your chances of experiencing the outcomes of unhealthy physical and fiscal behaviors.