A Satisficing Approach to Eliciting Risk Preferences

Ranganathan, Kavitha and Berg, Nathan and Prakhya, Srinivas (2017) A Satisficing Approach to Eliciting Risk Preferences. T A Pai Management Institute, Manipal.

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Abstract

A new approach to eliciting risk preferences by framing choice over risky payoff distributions as a satisficing task is proposed. An analytic model and empirical evidence both demonstrate novel links between information elicited from this satisficing task—in terms of acceptable worst-case outcomes traded off against best-case outcomes—and expected utility theory under the assumptions of either CARA or CRRA preferences. Analysis of the satisficing elicitation tool focuses on the economically important tradeoff observed when subjects accept reductions in potential upside gain in order to improve worst-case outcomes. Risk preferences are elicited by asking subjects to choose an acceptable worst-case portfolio outcome from a continuum of binary gambles each with its own support and unique minimum. The worst-case aspiration represents the smallest low-state payoff a subject is willing to accept. We show analytically and empirically that choice of a most preferred worst-case aspiration maps into a portfolio allocation of wealth over a binary risky asset and risk-free bond, implicitly generating unique risk-acceptance parameters under commonly used assumptions of CARA and CRRA risk preferences.

Item Type:	TAPMI Working Papers
Uncontrolled Keywords:	: risk preference; elicitation; satisficing; Herbert Simon; portfolio choice; simple rules that make us smart; simplicity
Subjects:	Finance
Divisions:	Finance and Strategy
Depositing User:	Ms. Vanitha K
Date Deposited:	09 Sep 2018 06:36
Last Modified:	17 Oct 2018 10:12
URI:	http://tapmi.informaticsglobal.com/id/eprint/21

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