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Chapter 12
Chapter 12
Chapter 12
Making Hard
Decisions
Value of Information
Draft: Version 1
R. T. Clemen, T. Reilly
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by GWU
Introduction
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Introduction
Problem at hand:
Given your decision problem, how much should
you be willing to pay for this information?
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1 Pr( A)
=1
1 Pr( A) + 0 Pr( A)
Conclusion:
Pr(A|"A") equals 1 no matter what the value of Pr(A) is.
Making Hard Decisions
R. T. Clemen, T. Reilly
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by GWU
Draft: Version 1
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Up (0.5)
Flat (0.3)
Stock
EMV=
580
EMV=
540
Low Risk
-1000
Up (0.5)
1000
Flat (0.3)
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Down (0.2)
Savings Account
R. T. Clemen, T. Reilly
100
Down (0.2)
Stock
1500
200
-100
500
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EMV=
1000
EMV=
500
Flat (0.3)
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Savings Account
Down (0.2)
EMV=
500
1500
1000
500
100
200
500
-1000
-100
500
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Consult Clairvoyant
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- X = Consulting Fee
EMV=
580
EMV=
1000 - X
Conclusion:
You would be willing to consult the clairvoyant expert if:
1000 - X 580 X 1000 - 580 = 420 (=EVPI)
Making Hard Decisions
R. T. Clemen, T. Reilly
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by GWU
Draft: Version 1
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UP
FLAT
DOWN
"UP"
Pr("UP"|UP)
Pr("UP"|FLAT)
Pr("UP"|DOWN)
"FLAT"
Pr("FLAT"|UP)
Pr("FLAT"| FLAT)
Pr("FLAT"|"|DOWN)
"DOWN"
Pr("DOWN"|UP)
Pr("DOWN"|
FLAT)
Pr("DOWN"|"|DOWN)
Total
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Draft: Version 1
Expert
Prediction
UP
FLAT
DOWN
"UP"
80%
15%
20%
"FLAT"
10%
70%
20%
"DOWN"
10%
15%
60%
Total
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Up (0.5)
Flat (0.3)
Stock
EMV=
580
EMV=
540
Low Risk
-1000
Up (0.5)
1000
Flat (0.3)
Draft: Version 1
Down (0.2)
Savings Account
R. T. Clemen, T. Reilly
100
Down (0.2)
Stock
1500
200
-100
500
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Flat (?)
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Down (?)
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High Risk
Stock
Flat (?)
Down (?)
Up (?)
Up (?)
Low Risk
Flat (?)
Stock
Down (?)
100
-1000
1000
200
-100
500
Draft: Version 1
Savings Account
1500
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Flat (?)
Down (?)
Up (?)
Flat (?)
Low Risk
Flat (?)
Stock
Down (?)
1500
100
-1000
1000
200
-100
500
Draft: Version 1
Savings Account
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Flat (?)
Down (?)
Up (?)
Down (?)
Low Risk
Flat (?)
Stock
Down (?)
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Savings Account
1500
100
-1000
1000
200
-100
500
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Draft: Version 1
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Experts
Forecast
Experts
Forecast
Up (0.80)
Up (0.5)
Flat (0.3)
Draft: Version 1
Down (0.2)
Flat (0.10)
Market
Behavior
Up (?)
Up (?)
Flat (?)
Down (0.10)
Down (?)
Up (0.15)
Up (?)
Flat (0.70)
Flat (?)
Flat (?)
Down (0.15)
Down (?)
Up (0.20)
Up (?)
Flat (0.20)
Flat (?)
Down (0.60)
Down (?)
Down (?)
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Pr(Flat)
Pr(Down)
0.500
0.300
0.200
"A"
Pr("A"|Up)
Pr("A"|Flat)
Pr("A"|Down)
"Up"
0.800
0.150
0.200
"Flat"
0.100
0.700
0.200
"Down"
0.100
0.150
0.600
Check
1.000
1.000
1.000
Draft: Version 1
Pr("A" Up) Pr("A" Flat) Pr("A" Down) Pr("A") Pr(Up|"A") Pr(Flat|"A") Pr(Down|"A") Check
Check
0.400
0.050
0.050
0.500
0.045
0.210
0.045
0.300
0.040
0.040
0.120
0.200
0.485 0.825
0.300 0.167
0.215 0.233
1.000
0.093
0.700
0.209
0.082
0.133
0.558
1.000
1.000
1.000
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Experts
Forecast
Experts
Forecast
Up (0.80)
Up (0.5)
Draft: Version 1
Flat (0.3)
Down (0.2)
Flat (0.10)
Market
Behavior
Up (0.825)
Up (0.485)
Flat (0.093)
Down (0.10)
Down (0.082)
Up (0.15)
Up (0.167)
Flat (0.70)
Flat (0.300)
Flat (0.700)
Down (0.15)
Down (0.133)
Up (0.20)
Up (0.233)
Flat (0.20)
Flat (0.209)
Down (0.60)
Down (0.215)
Down (0.558)
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1164
Up (0.485)
Low Risk
Stock
Flat (0.093)
Down (0.082)
835
Up (0.825)
Flat (0.093)
Down (0.082)
100
-1000
1000
200
-100
500
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Savings Account
1500
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High Risk
187
Down (0.133)
500
Low Risk
Stock
1500
Flat (0.700)
Stock
Flat (0.300)
Up (0.167)
293
100
-1000
Up (0.167)
Flat (0.700)
Down (0.133)
200
-100
500
Draft: Version 1
Savings Account
1000
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High Risk
-188
Flat (0.209)
Stock
Down (0.215)
Down (0.558)
219
500
Up (0.233)
Up (0.233)
Low Risk
Flat (0.209)
Stock
Down (0.558)
100
-1000
1000
200
-100
500
Draft: Version 1
Savings Account
1500
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822
500
Flat (0.300)
Draft: Version 1
Down (0.215)
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EMV=
580
EMV=
822 - X
- X = Consulting Fee
Draft: Version 1
Conclusion:
You would be willing to consult the clairvoyant expert if:
822 - X 580 X 822 - 580 = 242 (=EVII)
EVII = Expected Value of Imperfect Information
Making Hard Decisions
R. T. Clemen, T. Reilly
Slide 28 of 29
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Draft: Version 1
Note:
EVPI EVII. Interpretation: Perfect Information is
always better than imperfect information.
When performing sensitivity analysis EVPI calculation
of every uncertain event should be considered. When
EVPI is high for a particular uncertain event, investment
to reduce uncertainty may be warranted.
Making Hard Decisions
R. T. Clemen, T. Reilly
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COPYRIGHT 2006
by GWU