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21 February, 2017

Would you take this bet? A great video from Veritasium - a youtube channel about science, human psychology and behavior. It's a great insight into loss/risk aversion by most people.

In this video you can see the interviewer approach random people on the streets of Melbourne, Australia and offer them a simple coin toss bet - you chose heads or tails, then if you win you get 10 AUD, if you lose you will give away 10 AUD. Most people did not want to take this bet and gamble. That's not the interesting part of the video however. What comes next is interesting - people declined a bet proposition where you could  "win 15 AUD/lose 10 AUD".

What does this teach us about humans? That we perceive our losses much more strongly than our wins. It appears that we will spend more energy into preventing a loss, than making a gain. Interestingly enough, some managers have learned about this human trait and started giving out performance bonuses in the beginning of the year with the promise and understanding that those bonuses will be taken away at the end of the year in case the employee/company does not meet its yearly targets. Employee and company performance increased after this method of performance boost was introduced.

Similarly, investors often hold on to losing positions due to the emotions associated with accepting a loss. Nobody wants to admit defeat and write off a loss, even if that means a tax break. That's weird right? Even more weird, it shows that people hold on to losing stocks while selling their winning stocks way too early.

Recognizing this fault in the way humans react can help you when actually gambling.


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