Rare and extreme outcomes in risky choice

Many real-world decisions involving rare events also involve extreme outcomes. Despite this confluence, decisions-from-experience research has focused on the impact of rare but non-extreme outcomes. In those situations, people typically choose as if they underestimate the probability of a rare outcome happening. Separately, people have been shown to overestimate the probability of an extreme outcome happening. Here, for the first time, we examine the confluence of these two competing biases in decisions from experience. In a between-subjects behavioural experiment, we examine people’s risk preferences for rare extreme outcomes and for rare non-extreme outcomes. When outcomes are both rare and extreme, people’s risk preferences shift away from traditional risk patterns for rare events: they underweight those extreme and rare events less. We simulate these results using a small-sample model of decision-making that accounts for the overweighting of extreme events. The additive effect of these decision biases on risk preferences reveals that to understand real-world risk for rare events we must also consider the extremity of the outcomes.