Scenario‐based portfolio selection of investment projects with incomplete probability and utility information

Scenario‐based portfolio selection of investment projects with incomplete probability and utility information

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Article ID: iaor201110450
Volume: 217
Issue: 1
Start Page Number: 162
End Page Number: 172
Publication Date: Feb 2012
Journal: European Journal of Operational Research
Authors: ,
Keywords: portfolio selection, scenario analysis and planning, stochastic linear programme
Abstract:

In the selection of investment projects, it is important to account for exogenous uncertainties (such as macroeconomic developments) which may impact the performance of projects. These uncertainties can be addressed by examining how the projects perform across several scenarios; but it may be difficult to assign well‐founded probabilities to such scenarios, or to characterize the decision makers’ risk preferences through a uniquely defined utility function. Motivated by these considerations, we develop a portfolio selection framework which (i) uses set inclusion to capture incomplete information about scenario probabilities and utility functions, (ii) identifies all the non‐dominated project portfolios in view of this information, and (iii) offers decision support for rejection and selection of projects. The proposed framework enables interactive decision support processes where the implications of additional probability and utility information or further risk constraints are shown in terms of corresponding decision recommendations.

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