35229536 decision making under conditions of risk
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8/4/2019 35229536 Decision Making Under Conditions of Risk
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DECISION MAKING UNDER CONDITIONS
OF RISK
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HOW DO WE NEED TO MAKE DECISIONUNDER CONDITIONS OF RISK?
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DECISION MAKING UNDER CONDITIONS OF RISK
Expected value criterion
Expected opportunity loss criterion
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EXPECTED VALUE CRITERION
1. Construct a conditional pay-off table listing thealternative decisions and the various states ofnature. Enter the conditional profit for each
decision-event combination along with theassociative probabilities
2. Calculate the EMV (expected monetary value)for each decision alternative by multiplying the
conditional profits by assigned probabilities andadding the resulting conditional values.
3. Select the alternative that yields the highestEMV
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Possible
demand
Probabilit
y
10 copies 11 copies 12 copies 13 copies 14 copies
10 0.10 200 170 140 110 80
11 0.15 200 220 190 160 130
12 0.20 200 220 240 210 180
13 0.25 200 220 240 260 230
14 0.30 200 220 240 260 280
Possible
Demand
Probability 10
copies
11 copies 12 copies 13 copies 14 copies
10 0.10 20 17 14 11 8
11 0.15 30 33 28.5 24 19.5
12 0.20 40 44 48 42 36
13 0.25 50 55 60 65 57.5
14 0.30 60 66 72 78 84
Total
expected
profit
200 215 222.5 220 205
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EXPECTED OPPORTUNITY LOSS CRITERION
1. Prepare the conditional profit table for eachdecision-event combination and write theassociated probabilities
2. For each event, determine the conditionalopportunity loss (COL) by subtracting thepayoff from the maximum payoff for that event
3. Calculate the expected opportunity loss (EOL)for each decision alternative by multiplying the
COL’s by the associated probabilities and thenadding the values
4. Select the alternative that yields the lowestEOL
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Possible
demand
Probability 10 copies 11 copies 12 copies 13 copies 14 copies
10 0.10 200 170 140 110 80
11 0.15 200 220 190 160 130
12 0.20 200 220 240 210 180
13 0.25 200 220 240 260 230
14 0.30 200 220 240 260 280
Possible
demand
Probability 10 copies 11 copies 12 copies 13 copies 14 copies
10 0.10 0 30 60 90 120
11 0.15 20 0 30 60 90
12 0.20 40 20 0 30 60
13 0.25 60 40 20 0 30
14 0.30 80 60 40 20 0
Possible
demand
Probability 10 copies 11 copies 12 copies 13 copies 14 copies
10 0.10 0 3 6 9 12
11 0.15 3 0 4.5 9 13.5
12 0.20 8 4 0 6 12
13 0.25 15 10 5 0 7.5
14 0.30 24 18 12 6 0
Expected 50 35 27.5 30 45
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