PROSPECT THEORY 271 specified type of risk. Compare, for example, probabilistic insurance against all forms of loss or damage to the contents of your home and contingent insurance that eliminates all risk of loss from theft, say, but does not cover other risks, e. g fire. We conjecture that contingent insurance will be generally more attractive than probabilistic insurance when the probabilities of unprotected loss are equated. Thus, two prospects that are equivalent in probabilities and outcomes could have different values depending on their formulation. Several demon strations of this general phenomenon are described in the next section The Isolation effecr In order to simplify the choice between alternatives, people often disregard components that the alternatives share and focus on the components that distinguish them(Tversky [44]). This approach to choice problems may produce inconsistent preferences, because a pair of prospects can be decomposed into common and distinctive components in more than one way, and different decom positions sometimes lead to different preferences. We refer to this phenomenon the isolation effect PROBLEM 10: Consider the following two-stage game. In the first stage there probability of. 75 to end the game without winning anything, and a probability of 25 to move into the second stage. If you reach the second stage you have a choice tween (4,000,80)and(3,000) Your choice must be made before the game starts, i. e, before the outcome of the first stage is known Note that in this game, one has a choice between 25x 80=20 chance to win 000, and a. 25 x1.0=.25 chance to win 3, 000. Thus in terms of final outcomes and probabilities one faces a choice between(4, 000, 20)and (3, 000, 25), as in Problem 4 above. However, the dominant preferences are different in the two problems, Of 141 subjects who answered Problem 10, 78 per cent chose the latter prospect, contrary to the modal preference in Problem 4. Evidently, people gnored the first stage of the game, whose outcomes are shared by both prospects, and considered Problem 10 as a choice between(3, 000)and (4, 000, .80, as in Problem 3 above The standard and the sequential formulations of Problem 4 are represented decision trees in Figures 1 and 2, respectively. Following the usual convention quare denote decision nodes and circles denote chance nodes. The essential difference between the two representations is in the location of the decision node In the standard form(Figure 1), the decision maker fac risky prospects, whereas in the sequential form(Figure 2)he faces a choice between a risky and a riskless prospect. This is accomplished by introducing a dependency between the prospects without changing either probabilities or