Inference from Streaks in random outcomes: Experimental evidence on beliefs in regime shifting and the law of small numbers

Elena Asparouhova, Michael Hertzel, Michael Lemmon

Research output: Contribution to journalArticlepeer-review

44 Scopus citations


Using data generated from laboratory experiments, we test and compare the empirical accuracy of two models that focus on judgment errors associated with processing information from random sequences. We test for regime-shifting beliefs of the type theorized in Barberis et al. (Barberis, N., A. Shleifer, R. Vishny. 1998. A model of investor sentiment. J. Financial Econom. 49(3) 307-343) and for beliefs in the "law of small numbers" as modeled in Rabin (Rabin, M. 2002. Inference by believers in the law of small numbers. Quart. J. Econom. 117(3) 775-816). In our experiments, we show subjects randomly generated sequences of binary outcomes and ask them to provide probability assessments of the direction of the next outcome. Inconsistent with regime-shifting beliefs, we find that subjects are not more likely to predict that the current streak will continue the longer the streak. Instead, consistent with Rabin (2002), subjects are more likely to expect a reversal following short streaks and continuation after long streaks. Results of a "test-of-fit" analysis based on structural estimation of each model also favor the model in Rabin. To provide more insight on Rabin, we use an additional experimental treatment to show that as the perception of the randomness of the outcome-generating process increases, subjects are more likely to predict reversals of current streaks.

Original languageEnglish (US)
Pages (from-to)1766-1782
Number of pages17
JournalManagement Science
Issue number11
StatePublished - Nov 2009


  • Behavioral finance
  • Decision analysis
  • Experimental economics
  • Inference

ASJC Scopus subject areas

  • Strategy and Management
  • Management Science and Operations Research


Dive into the research topics of 'Inference from Streaks in random outcomes: Experimental evidence on beliefs in regime shifting and the law of small numbers'. Together they form a unique fingerprint.

Cite this