The availability heuristic is a mental shortcut that relies on immediate examples that come to mind when evaluating a specific topic, concept, method or decision. That is, subjective likelihood of an event is increased by the event being easy to imagine. For example, in an early experiment by Tversky & Kahneman, subjects were asked, “If a random word is taken from an English text, is it more likely that the word starts with a K, or that K is the third letter?” They argue that people would immediately think of many words that begin with the letter “K” (kangaroo, kitchen, kale), but that it would take a more concentrated effort to think of any words in which “K” is the third letter (acknowledge, ask). Results indicated that participants overestimated the number of words that began with the letter “K” and underestimated the number of words that had “K” as the third letter. Tversky and Kahneman concluded that people answer questions like these by comparing the availability of the two categories and assessing how easily they can recall these instances. In other words, it is easier to think of words that begin with “K”, than to think of words with “K” as the third letter. Thus, people judge words beginning with a “K” to be a more common occurrence. In reality, however, a typical text contains twice as many words that have “K” as the third letter than “K” as the first letter, and there are three times more words with “K” in the third position than words that begin with “K”.
Based on many such laboratory psych experiments, the availability heuristic is thought to be a more or less universal feature of default thinking. The findings hypothetically should generalize from the lab to real life, but real life always comes with an unknown quantity of unknown variables, which could confound expectations. I put the availability heuristic to the test in a legal gambling market with significant amounts of money at stake.
Predictit.com allows users to make predictions on future events by buying shares in the outcome, either Yes or No. Each outcome has a probability between 1 and 99 percent. The probabilities are converted into US cents. For example, Trader A thinks an event has at least a 60 percent chance of taking place so he offers 60 cents for a Yes share. PredictIt matches his offer with that of Trader B, who is willing to pay 40 cents for a No share. Each trader now owns a share in the market for this event on opposite sides. The prices of shares will change over time and both traders could decide to sell their shares at any time. If an event does take place, all Yes shares are redeemed at $1. Shares in No become worthless. If the event does not take place before the market closes, traders holding shares in No will be paid $1, while Yes shares will be worthless. Every market asks a specific question about a potential future event. Some markets feature questions that have simple Yes or No answers, while others offer multiple possible outcomes. Each of these options is known as a ‘contract.’
I found a certain type of contract perfectly suited for the availability heuristic. These contracts shared the form ‘Will person A say “X” in his upcoming speech?’ For example, ‘Will Trump mention “fake news” in State of the Union?’ It is easier to imagine Trump saying “fake news” than to imagine Trump not saying “fake news”. Trying to imagine the latter almost necessarily involves imagining the former. Non-events are difficult to conceptualize. So according to availability heuristic theory, people should systematically overestimate the probability of Trump saying “fake news”, and in general, overestimate the probability of person A saying “X”. Therefore Yes shares should be overvalued, and No shares should be undervalued. If the theory holds in this case, then I should make a net profit by buying No shares in every such contract.
So far, over the past two years, I have seen 21 such contracts, and bought No shares in all of them. Below is a table of all such contracts and my profit.
Always betting No has turned out to be a winning strategy, yielding a net gain of 20%. This shows that other market participants are underestimating the probability of non-events. The availability heuristic seems to be operant in this real life case with real stakes. My copy of Daniel Kahneman’s Thinking, Fast and Slow has paid for itself many times over. I only wish that Predictit.com would host more of this contract type so that I could cash in even more on this predictable feature of human thinking.