An Empirical Test of Gain-Loss Separability in Prospect Theory

We investigate a basic premise of prospect theory: that the valuation of gains and losses is separable. In prospect theory, gain-loss separability implies that a mixed gamble is valued by summing the valuations of the gain and loss portions of that gamble. Two experimental studies demonstrate a systematic violation of the double-matching axiom, an axiom that is necessary for gain-loss separability. We document a reversal between preferences for mixed gambles and the associated gain and loss gambles—mixed gamble A is preferred to mixed gamble B, but the gain and loss portions of B are preferred to the gain and loss portions of A. The observed choice patterns are consistent with a process in which individuals are less sensitive to probability differences when choosing among mixed gambles than when choosing among either gain or loss gambles.