In behavioral finance the regret theory states that economic operators, in making choices, try to limit the risks of a future regret. The operators try to keep the choice even in the event of losses, with the hope of recovery
The theory of regret (in English regret theory) plays a relevant role within behavioral finance, as it seeks to provide a further interpretation of individual decision-making processes under conditions of uncertainty.
The Regret Theory, formalized for the first time by Loomes and Sugden (1982) states that, when investors are faced with a choice in a state of uncertainty, they evaluate and analyze in advance the possible consequences that this choice entails. Individuals are aware of the fact that if their decision leads to a positive outcome, they will experience satisfaction (rejoicing), while in the opposite case, they will be affected by regret for having made that choice. They, therefore, at the time of making a decision, prefer and try to limit as much as possible the risks of a future regret to avoid the displeasure resulting from a wrong choice. In fact, for individuals, this regret is greater than the regret that they feel for not having carried out a specific action that would have led to satisfactory results (regret by omission). Moreover, investors try to defend their choices and to avoid the stress associated with admitting their mistake, they maintain their position at a loss with the hope of a possible recovery.
Often individuals find themselves in a situation of mental conflict facing the evidence that one of their convictions is wrong: this phenomenon is called cognitive dissonance. Mc Fadden (1999) explains that based on the theory of cognitive dissonance, individuals tend to perform irrational behavior to try to reduce this dissonance. Furthermore, they have a tendency to seek only information about the options taken into consideration, avoiding new information and neglecting the possible alternatives that could have been better, maintaining old opinions in order to avoid mental conflict.
Loomes G., Sugden R. (1982). Regret Theory: An Alternative Theory of Rational Choise Under Uncertainty. The Economic Journal, Vol. 92, No. 368, pp.805-824. Royal Economic Society.
Mc Fadden D. (1999). Rationality for Economists? Journal of Risk and Uncertainty, vol. 19, no. 1-3, pp. 73-105.