Why bronze medallists are happier than silver medallists

For most athletes, to win an Olympic medal would be a dream come true. However, the level of happiness achieved can depend a lot on the medal they receive.

In 1995, psychologists Medvec, Gilovich and Madey, performed a study on medallists at the 1992 Barcelona Olympic Games, to gauge their level of happiness. Video footage was taken of all medal ceremonies, and undergraduates were asked to rate the happiness displayed of each of the medallists, with each scored out of ten.

As expected, visually the gold medallists were the happiest, but not far behind were the bronze medallists who scored 7.1 out of 10. The silver medallists were the least happy, scoring just 4.8 out of 10.

So why the unusual results? It all has to do with perspective.

The silver medallists looked upwards at the thought of winning the gold, and any outcome other than that was considered a loss. The bronze medallists however looked downwards at the potential of not winning a medal at all, so receiving a bronze was considered a gain.

So, the happiness of the medallists depended on whether they felt they gained or lost, given their reference point, which is a key element of Prospect Theory.

What Is Prospect Theory?

Prospect theory is a Nobel Prize winning idea, first published in 1979 by Daniel Kahneman and Amos Tversky. It examines how we form decisions under uncertainty. According to the theory, people value gains and losses disproportionally.

The theory is the most famous element of behavioural economics and is considered one of the best models for explaining how people make decisions.

The word ‘prospect’ relates to how people form decisions about prospects (gambles), where there is uncertainty about whether there will be a win or a loss. For example, if we are thinking of buying an investment property, the property would be considered a ‘prospect’ as we are uncertain what we will sell the property for, down the track.

There are three major ideas in Prospect Theory, which are reference points, diminishing sensitivities and loss aversion.

Reference Points

Prospect theory suggests that how we perceive an outcome is highly influenced by where we start.

Let’s say Tom owns $9m and Mary owns $1m. Both invest their money in the stock market, and after a year, Tom and Mary both end up with $5m each.

Daniel Bernoulli’s Utility theory (the predecessor to Prospect theory) says that both are equally happy as they have the same amount of money. However, Prospect Theory says that Mary would be happy and Tom unhappy, due to their starting points.

People judge their levels of wealth as a transition from a reference point rather than in absolute terms.

Diminishing Sensitivity

People are sensitive to small losses, but as these losses increase, the rate of growth of this sensitivity diminishes. This is the same with gains.

For example, if you lose $5, you might become upset, because we dislike losing money however small it is.

However, if you lose $50, you might be a little more upset, but you won’t be 10 times more upset, as the rate of growth of this sensitivity diminishes.

Loss Aversion

Imagine you have won $50. Now imagine you have won $100 and then lost $50. Though in both scenarios you are left with $50, the first scenario is the one we prefer because it doesn’t involve a loss.

People dislike losses, and the pain of a loss is 2-3 times greater than the pleasure of an equivalent gain. Hence, when people are loss averse, they avoid 50/50 gambles, unless the amount to win is at least twice as much as the amount to lose.

Prospect theory also suggests we prefer the certainty of a gain, over the possibility of an even greater gain. Hence, most people would prefer to receive a certain $5,000 than have a 50% chance of winning $10,000.

Conclusion

So, why is it important for investors to be aware of Prospect Theory?

Prospect Theory helps us to understand the biases that are at play when we make an investment decision. How we value gains and losses is really quite different.

By understanding these biases, it can help us to avoid them, so that we think as rationally as possible when making a decision.