Why Monkeys Hate Losing Grapes and You Hate Losing Money

In our lives, we believe it reasonable to endeavor to make better decision than monkeys.  This isn’t as easy as it sounds.

In a famous experiment popularized by the the 2009 book SuperFreakonomics, Dr. Keith Chen conditioned Capuchin monkeys to understand the utility of money to purchase treats.1   It was compelling enough that the monkeys showed demand elasticity – they bought less of certain treats when prices rose and more of other treats when they fell – but the real breakthrough was when the researchers introduced two gambling games.

In the first game, a monkey was shown one grape and, depending on a coin toss, either received just the one grape, or a ‘bonus’ grape as well. In the second game, the monkey was presented with two grapes to start. When the coin was flipped against him, the researcher took away one grape and the monkey received the other.

Note that in both games the monkeys got the same number of grapes on average. However, in the first game the grape is framed as a potential gain, whereas in the second game it is framed as a potential loss.

How did the monkeys react? From the book:

“Once the monkeys figured out that the two-grape researcher sometimes withheld the second grape and that the one grape researcher sometimes added a bonus grape, the monkeys strongly preferred the one-grape researcher.

A rational monkey would not have cared, but these irrational monkeys suffered from what psychologists call loss aversion. They behaved as if the pain of losing a grape was greater than the pleasure of gaining one.”

That losses are disproportionately difficult to bear has important implications for our own behaviors.  For example, knowing this, we – as the monkeys did in the experiment – tend to make different choices based on how a decision is framed.  Recalling that the monkeys received the exact same expected amount of grapes regardless of which researcher was making the offer, the monkeys simply ceased engaging in the wager when the proposition started with 2 grapes on offer, and included a potential loss.

It turns out that humans react in precisely the same way in similar situations. Many studies have observed how investors sell their winning investments early (to avoid losses against anchored values), and hold on to losing positions longer than they should (to avoid crystallizing the reality of losing money).

These and other observations led psychologists Daniel Kahneman and Amos Tversky to formulate Prospect Theory in the early 1990s to describe how people make decisions between probabilistic alternatives involving risk. Kahneman won the Nobel Memorial Prize in Economics for his work on Prospect Theory in 2002.

Doing a tremendous disservice to the nuance and robustness of their work, prospect theory can be boiled down to a single concept:

The perceived pain derived from a loss hurts significantly more than the perceived pleasure derived from an equivalent gain.

To put it in the context of money, the chart below shows how winning $50 doesn’t create nearly as much joy as the pain created by losing the exact same amount.

Because of this emotional asymmetry, in a gain scenario investors are likely to eschew risk, while in a loss scenario investors are likely to seek it out.  And this is one of the primary reasons why we have long embraced an investment philosophy that focuses on risk management.  Across our client base – and indeed across the entire universe of investors – we know that the acutely amplified pain of losses is a powerful driver of sub-optimal decision making.

In March of this year, we posted on Gestaltu about how our investment philosophy specifically targets the behavioral biases that can undermine investor success. At the time, we said:

As quantitative investors and researchers, we generally don’t like to work in “squishier” areas of social science.  As trusted financial advisors, however, we know that when we sit across from clients, they often need more than just an evidence-based approach to investing.  Often, they need encouragement, nurturing and coaching.

People use facts as factors in decision making, but they take action on emotion. We engineer investment strategies that not only work in silico, but that also work in practice with real clients whose behaviours and actions are never completely removed from their emotional state.  In other words, the rules based approaches we apply in practice need to be compatible with the much less predictable black box inside your (and our) skull…

… It’s true that we don’t spend as much time…as our colleagues might discussing behavioral finance.  Now you know why: the best way we know to limit the adverse effects of such behaviors is to provide our clients with a return profile that doesn’t compel them to make bad choices under duress.

We stand by these words.  Our investment methodology isn’t just meant to get you from here to your financial goals; it’s meant to get you there as smoothly and calmly as possible.


1.  Chen, M. Keith, Venkat Lakshminarayanan, and Laurie R. Santos. “How Basic Are Behavioral Biases? Evidence from Capuchin Monkey Trading Behavior.” Journal of Political Economy 114.3 (2006): 517-37. Print.