Prospect Theory and Risk-Seeking Behavior by Troubled Firms

Abstract

The paper studies the relationship between the risk and returns to check its conformance with the prospectus theory which is affecting the rational decision making behavior of investors and it is argued by many critiques. The study uses a different approach for measuring the reference point which is an important element of Prospect theory and for the measurement of the risk as well. Data is taken from 2003 to 2011 from the BSA and results are quite consistent with the prospect theory which means that firm which shows the return below their target level, they start showing the risk seeker behavior while on the contrary, firms with the returns above their target level start showing a risk averse behavior.

Keywords: Prospect Theory