Expected Value and Choice Under Risk
In the presence of risky outcomes, a decision maker could use the expected value criterion as a rule of choice: higher expected value investments are simply the preferred ones. For example, suppose there is a gamble in which the probability of getting a $100 payment is 1 in 80 and the alternative, and far more likely, outcome, is getting nothing. Then the expected value of this gamble is $1.25. Given the choice between this gamble and a guaranteed payment of $1, by this simple expected value theory people would choose the $100-or-nothing gamble. However, under expected utility theory, some people would be risk averse enough to prefer the sure thing, even though it has a lower expected value, while other less risk averse people would still choose the riskier, higher-mean gamble.
Read more about this topic: Expected Utility Hypothesis
Famous quotes containing the words expected, choice and/or risk:
“For I had expected always
Some brightness to hold in trust,
Some final innocence
To save from dust;”
—Stephen Spender (1909–1995)
“I choose my friends for their good looks, my acquaintances for their good characters, and my enemies for their intellects. A man cannot be too careful in the choice of his enemies.”
—Oscar Wilde (1854–1900)
“It’s a funny thing, the less people have to live for, the less nerve they have to risk losing—nothing.”
—Zora Neale Hurston (1891–1960)