Dominance Violations and Event Splitting in Decision under Uncertainty

A standard requirement of rationality is that preferences obey stochastic dominance. In this paper, we investigate a new variety of dominance violation from the domain of uncertainty. We find that subjects systematically value a packed prospect, $x if one of two mutually exclusive events E1 or E2 obtains, less than an unpacked and dominated prospect, $x if E1 obtains, and $x−ε if E2 obtains. We account for these violations in terms of subadditivity of probability judgments (Tversky and Koehler, 1994): unpacking an event into constituent components increases the total probability assigned to that event. We discuss the implications of these dominance violations for composition rules in prospect theory.