Stocks as lotteries: The implications of probability weighting for security prices

Nicholas Barberis (First Author), Ming Huang (Participant Author)

    Research output: Contribution to journalJournal

    469 Citations (Web of Science)

    Abstract

    We study the asset pricing implications of Tversky and Kahneman’s (1992) cumulative prospect theory, with a particular focus on its probability weighting component. Our main result, derived from a novel equilibrium with nonunique global optima, is that, in contrast to the prediction of a standard expected utility model, a security’s own skewness can be priced: a positively skewed security can be “overpriced” and can earn a negative average excess return. We argue that our analysis offers a unifying way of thinking about a number of seemingly unrelated financial phenomena.
    Original languageEnglish
    Pages (from-to)2066-2100
    JournalAmerican Economic Review
    Volume98
    Issue number5
    DOIs
    Publication statusPublished - 2008

    Corresponding author email

    nick.barberis@yale.edu

    Project name

    NATIONAL BUREAU OF ECONOMIC RESEARCH

    Project sponsor

    其他

    Project No.

    12936

    Keywords

    • AGGLOMERATION ECONOMIES
    • ASSET PRICES
    • CENTRAL-EUROPE
    • CHINA
    • DETERMINANTS
    • DIVERSIFICATION
    • ENTRY MODE CHOICE
    • EQUITY PREMIUM PUZZLE
    • JOINT VENTURES
    • LOCATION
    • MULTINATIONAL-ENTERPRISE
    • PERFORMANCE
    • PROSPECT-THEORY
    • RETURNS
    • RISK-AVERSION
    • SKEWNESS PREFERENCE
    • TRANSACTION COSTS THEORY
    • UNITED-STATES

    Indexed by

    • FT
    • ABDC-A*
    • Scopus
    • SSCI

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