Researchers have analyzed the outcomes of millions of games of online poker they found something pretty remarkable: the poker players who won most often also lost the most money. How can that be possible?
Aggressive players lose
Online poker playing involves many many risky decisions some for small stakes and some for large stakes. Researchers have analyzed the outcomes of millions of games of online poker they found something pretty remarkable: the poker players who won most often also lost the most money. How can that be possible?
The simple explanation is that those players tended to win games involving small amounts of money, but tended to lose games involving large amounts of money, the players who win most often are aggressive and stay in many hands even if they don’t have the best cards.
Most of the time this seems like a good strategy because they discourage the other players from playing and they can collect pots with relatively small amounts of money over and over. But, some of the time the play aggressively when they have a pretty good hand but someone else turns out to have an even better hand and then they lose a very big pot of money.
Players don’t learn from losses
This raises an important question: Why didn’t these players will learn from those large losses? The answer follows naturally from reference dependence, dopamine neurons are very sensitive to whether you win or lose but are less sensitive to how much you win or lose.
So, when a poker player wins $10 that is coded as a good event the players brain effectively motivates them to keep playing losing a very large amount of money say $1000 is coded as a bad event but it doesn’t seem 100 times worse than the good of its. Which means that winning small amounts and losing big amounts is a great way to manipulate the activity of dopamine neurons, but it’s also a quick path to bankruptcy.
On a more positive note, very successful poker players lose most of the time when but when they lose they lose small amounts of money and when they win they win big. So, you can see why reference dependence is one of the big ideas and behavioral economics. This leads to some the most striking, biases in our choice behavior biases that we can learn to minimize in order to make better choices.
The endowment effect
One of the most famous such biases is called the endowment effect. This bias has deep consequences for decision-making. Imagine taking an apple and cutting off a small slice off of inside giving a circle of fruit about an inch in diameter. How valuable is that little slice of apple?
Perhaps it is very valuable to you, but you aren’t a capuchin monkey. Capuchins are small and very cute New World monkeys that really really like apples. In an ingenious experiment Capuchin monkeys were trained as exchange coin like tokens for treats like slices of apple. Their exchanges were price-sensitive.
A monkey might equally prefer apple slices and cereal cubes, if both cost one token per piece, but if the price of serial cubes dropped to say one token per two cubes the monkey would choose the cheaper serial cubes. The monkeys were first endowed with one type of food like apple slices then given the chance to trade for another equally valued food like cereal cubes.
The monkeys only traded about 10% of the time, that is they preferred whatever food they were randomly assigned. That’s an endowment effect. The monkeys overvalue what ever they have compared to what they could get. Of course there might be other explanations the monkeys might not like to trade food at all once they have.
So, the researchers ran the experiment again now allow the monkeys to trade their apple slices for the best treats of all: fruit roll ups filled with marshmallow fluff. Now the monkeys were willing to trade about 90% of the time. It wasn’t that the monkeys didn’t want to trade, they just show the endowment effect and overvalue what they already had.
It’s tempting to dismiss this example, after all we humans are much smarter and much better decision-makers the 6 pound Capuchin monkey. But, we humans, do the same thing even if the endowment effect originally attracted the attention of economists because it helps explain some puzzling features a market behavior, such as the fact that people don’t trade goods as often as predicted by economic models.