3 - Decision Analysis

EMV(alternative) = summation of: (payoff X of state of nature i) x (probability of achieveing payoff X)

EMV formula

EVPI = EVwPI - best EMV

EVPI equation

EVwPI = summation of: (best payoff in state of nature i) x (probability of state of nature i)

EVwPI equation

Optimistic (maximax)

criterion used where the best (maximum) payoff for each alternative is considered and the alternative with the best (maximum) of these is selected

What to pay for information

evpi places an upper bound on?

Expected value of perfect information

expected value with perfect information minus maximum EMV

[(CoR x best in row) + (1-CoR)(worst in row)]

formula for "weighted average" on criterion of realism

Best payoff - payoff in each column and row (cell)

how is opportunity loss for each state of nature calculated?

Expected/Mean value

long-run average value of a decision

1. Expected monetary value (emv) 2. Expected value of perfect information (evpi) 3. Expected opportunity loss (eol)

methods of making decisions under risk

Opportunity loss or regret

minimax regret criterion is based on?

1. Create opportunity loss table 2. Calculate opportunity loss 3. Find the maximum (worst) opportunity loss for each alternative. 3. Pick the alternative with the minimum (best) number among the maximums found.

steps in the minimax regret criterion

Opportunity loss table

table used by minimax regret criterion

Decision (payoff) table

table used by the 1st 4 criteria

Regret

the amount lost by not picking the best alternative in a given state of nature

Weighted average

the criterion of realism is often called?

Opportunity loss

the difference between the optimal profit or payoff for a given state of nature and the actual payoff receved for a particular decision

Equal

the equally likely criterion assumes that all probabilities of occurence for the states of nature are?

Expected monetary value

weighted sum of possible payoffs for each alternative

One with the maximum EMV vaue

what is chosen when EMV is used?

Pessimistic criterion

when coefficient of realism is = 0, this is the same as?

Optimistic criterion

when coefficient of realism is = 1, this is the same as?

Negative

with maximization problems using the minimax regret criterion, the opportunity loss can never be?

Pessimistic (maximin)

criteria used when the worst (minimum) payoff for each alternative is considered and the alternative with the best (maximum) of these is selected

Coefficient of realism

selected for criterion of realism; measures the degree of optimism of the decision maker

Equally likely (Laplace)

criterion that involves finsing the average payoff for each alternative, and selecting the alternative with the best or highest average

Decision table

constructed to best present the values of possible outcomes or the conditional values

1. Maximization of expected monetary value 2. Minimization of expected opportunity loss

2 equivalent criteria employed by decision theory models for business problems in decision making under risk

1. EVPI 2. EVwPI

2 related terms investigated when perfect information is present

1. Decision making under certainty 2. Decision making under uncertainty 3. Decision making under risk

3 decision making environments

1. Optimistic (maximax) 2. Pessimistic (maximin) 3. Criterion of realism (Hurwicz) 4. Equally likely (Laplace) 5. Minimax regret

5 criteria for decision making under decision making under uncertainty

1. Clearly define the problem at hand. 2. List the possible alternatives. 3. Identify the possible outcomes or states of nature. 4. List the payoff (typically profit) of each combination of alternatives and outcomes. 5. Select one of the mathematical theory models. 6. Apply the model and make your decision.

6 steps in decision making

Alternative

a course of action or a strategy that the decision maker can choose

Decision making under certainty

a decision-making environment where decision makers know with certainty the consequence of every alternative or decision choice

Decision making under certainty

a decision-making environment where there are several possible outcomes for each alternative, and the decision maker does not know the probabilities of the various outcomes

Decision making under risk

a decision-making environment where there are several possible outcomes for each alternative, and the decision maker knows the probability of occurrence of each outcome

Logic

a good decision is based on?

Conditional values

a term used to refer to payoffs or profits that result from each possible combination of alternatives and outcomes

It allows he decision maker to build in personal feelings about relative optimisim and pessimism.

advantage of the Hurwicz criterion

Decision theory

an analytic and systematic approach to the study of decision making and way to tackle problems

Maximax

an optimistic approach

Weighted average approach

approach used for criterion of realism

1. Based on logic 2. Considers all available data and possible alternatives 3. Applies appropriate quantitative approaches

characteristics of a good decision

0 - 1

coefficient of realism ranges from & to?

CoR = 1 = 100% optimistic

coefficient of realism value when decision maker is 100% optimistic about the future

Cor = 2 = 100% pessimistic

coefficient of realism value when decision maker is 100% pessimistic about the future

Payoff table

other name for a decision table

States of nature

outcomes over which the decision maker has little or no control