Shifts of reference points for framing of strategic decisions and changing risk–return associations

Previous results on nonlinear risk–return associations, predicted by prospect theory, are replicated with mean quadratic differences instead of variance as a measure of risk. In contrast to assumptions of these studies, results with a sample from the COMPUSTAT-database provide evidence that at least a minority of firms shift to individual reference levels, which are represented here through levels of minimal risk. Further, changes of environmental conditions as an alternative explanation for switching risk–return relationships are tested against prospect theory predictions. It is shown that risk–return relationships remain stable as long as the relative position to the individual reference level is stable. This explains switching risk–return relationships better than changing environmental conditions.