How the twain can meet: Prospect theory and models of heuristics in risky choice

Two influential approaches to modeling choice between risky options are algebraic models (which focus on predicting the overt decisions) and models of heuristics (which are also concerned with capturing the underlying cognitive process). Because they rest on fundamentally different assumptions and algorithms, the two approaches are usually treated as antithetical, or even incommensurable. Drawing on cumulative prospect theory (CPT; Tversky & Kahneman, 1992) as the currently most influential instance of a descriptive algebraic model, we demonstrate how the two modeling traditions can be linked. CPT's algebraic functions characterize choices in terms of psychophysical (diminishing sensitivity to probabilities and outcomes) as well as psychological (risk aversion and loss aversion) constructs. Models of heuristics characterize choices as rooted in simple information-processing principles such as lexicographic and limited search. In computer simulations, we estimated CPT's parameters for choices produced by various heuristics. The resulting CPT parameter profiles portray each of the choice-generating heuristics in psychologically meaningful ways-capturing, for instance, differences in how the heuristics process probability information. Furthermore, CPT parameters can reflect a key property of many heuristics, lexicographic search, and track the environment-dependent behavior of heuristics. Finally, we show, both in an empirical and a model recovery study, how CPT parameter profiles can be used to detect the operation of heuristics. We also address the limits of CPT's ability to capture choices produced by heuristics. Our results highlight an untapped potential of CPT as a measurement tool to characterize the information processing underlying risky choice.