The Prospect Theory was developed by Daniel Kahneman and Amos Tversky in 1979. It’s a behavioural model (psychology theory) that describes how people make decisions when presented with alternatives that involve risk, probability and uncertainty. See video below for a one minute explanation.

People usually make decisions based on a perfectly rational evaluation of the potential gains and losses that are associated with that decision. The pain of losing something is stronger than the pleasure of gaining something. Our risk tolerance are different based on the decisions we face. When we are speaking about possible gains we tend to be risk averse, in other words, we will choose options that provide lower expected returns and more certainty. Whereas when the decision is about potential losses we tend to be risk seeking. Which means we will accept the lower than expected value as long as we feel we have some potential to avoid losses.