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Â >> So you have just answered a quiz,

Â let me briefly remind you what the question was.

Â We asked you to pick a number between 0 and 100,

Â then we we're going to select the winner of that game in the following way.

Â First, we would compute the average of all the selected numbers and

Â then the winner would be the individual choosing the number closest to two

Â thirds of that average.

Â Unfortunately, we couldn't process all your answers immediately, so

Â we don't really know who won the game.

Â However, this experiment has been played quite a number of time and

Â we have data from previous experiments and Kerstin actually has some data that

Â described the result of a previous experiment.

Â >> Okay, so let's take a look.

Â The most important thing first, what would have been the winning number?

Â So in this experiment that we're looking at here, the average number was 23.08,

Â which means two-thirds of that would have won the price.

Â But what do people do as a group?

Â So the graph show a histogram of the responses that people gave in this

Â experiment.

Â On the x-axis, we see that numbers that people could choose from 0 to 100.

Â And on the y-axis, we plot how many people actually chose that number.

Â So what we observe is most people choose a number less than 50, but

Â we also there is a few clusters here.

Â So a lot of people seem to like the number around 33,

Â another group of people seem to like numbers around 22 and

Â then there is a quite a few people who also choose a number around 0.

Â And this is a behavior we typically see in these kinds of experiments.

Â But Tony, from a purely rational point of view,

Â what do you expect a player to do in this experiment?

Â 1:50

>> So, the outcome of this game as you can see,

Â does not uniquely depend on your answer but on other people's answers.

Â So you not only have to pick a number, but

Â make assumptions about what other people are choosing.

Â So if you think that you're the smartest individual in the group and everybody else

Â chooses a number at random, you'd expect the average to actually be 50.

Â And you would be selecting the number 33, which is two-third of 50 and

Â this is probably what explained this cluster around 33.

Â But if you take this reasoning one more step and you assume that other people

Â also think they are the smartest in the room, they would all select 33 and

Â then you would beat them by selecting 22, which is two-third of 33.

Â If you keep on reasoning like that, you end up to the conclusion that the only

Â optimal decision is to select the smallest available number, which is zero.

Â So, the rational decision here would actually to play zero.

Â And if everybody plays zero, there is no winner.

Â There is just a tie between every players.

Â So if you choose the rational decision, which is zero, you do not necessary win.

Â Because again, the outcome here does not depends on your decision, but

Â on everybody's decision.

Â 3:05

>> So, what if you were to repeat this experiment?

Â And I ask you to do this again now that you know what the outcome was.

Â So basically, what happens is that people tend to pick smaller and smaller numbers.

Â So here, we see a graph of a repetition of this game where people are informed about

Â the outcome of previous games,

Â and you see they slowly reduce the number that they pick.

Â And over time,

Â approach the actual rational solution that Tony just described.

Â So, they're going towards zero.

Â So what we learned from this is that if you are aware of the rules of the game and

Â you learn what other people are doing,

Â you can also learn what the best decision is going to be.

Â 3:42

So now what do we learn about this general about decision-making,

Â is there any particular way to approach the decision making process?

Â So Tony, how would you think about the decision-making process in general?

Â >> Well, if you were to think of a number of steps that are usually taken when

Â facing a decision similar to the game we asked you to play,

Â you see that first, there is a stage of information gathering.

Â So the first idea is just to gather information related to the task,

Â to get an idea of what is being asked, what you can do, and

Â get a general idea of the environment of the task.

Â Then there is a second step where all that information is processed.

Â This might involve computations.

Â So for example, in our game, if you were to compute the fraction of the average.

Â So this is information processing.

Â Once all this information is processed, you have to come up with a decision.

Â This decision in the game was just picking a number.

Â But in general, the type of decision you will be making,

Â in particular in investment decision, is much more complicated and

Â involves many different elements.

Â 4:55

In the previous lessons, you've learned a lot of things about financial assets,

Â their definition, their characteristics, how we measure their performance,

Â and these elements are typically the type of information that one needs to gather.

Â And in a financial decision process, the first step would be to gather

Â information regarding the available financial assets.

Â And data related to their past performance, for example, in order to

Â measure their risk and the potential gains we can obtain by investing in them.

Â Then the second step in a financial decision situation

Â would be to process the information again.

Â The processing of that information involves computation related

Â to the valuation of some securities.

Â Are they under or over valued?

Â Measurements of dependence between financial assets.

Â Do they move together or do they move independently?

Â And once all this information is processed,

Â we finally come to the financial decision, which typically involves

Â maximizing some objective in terms of your future wealth, and maybe respecting

Â some form of financial constraint related to your personal situation.

Â But this is the way I would view this type of a decision as an economist,

Â but I'm pretty sure that as a neuroscientist,

Â you might see other dimensions there in that process.

Â >> Yes. As you already suggested, that's correct.

Â From neuroscience and from psychology, we know that you don't just evaluate

Â the numbers when you try to put together a portfolio, for instance.

Â But instead, your decision-making is influenced by other processes as well.

Â It's influenced, for instance,

Â by how much sleep you got last night, by the stress you're experiencing.

Â Maybe by your social background, your cultural background, by your gender.

Â You may also experience something that we call cognitive biases and

Â that we are going talk about a little bit more in the next few videos.

Â All of these things will influence how you make a decision and as such,

Â it becomes an extremely complex process that we analyze in the next few videos.

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Â