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Seminar in Decision-Making and RiskPartha KrishnamurthyUniversity of Houston
Goals for the Seminar
Lower the microscope on how decisions are made.
Increase conscious decision-making.
Increase sensitivity to the various facets of the decision-making process.
What is a Decision?
Your thoughts on key characteristics of decisions.
What makes a decision, a decision?
Elements of Decision-making
Question of decision options
Question of outcomes for the options
Question of preferences for the outcomes
Question of decision rule Decisions about the decision-making process
Core of Decision Making:Logic of Consequence* Choice process is consequential and
preference-based
Consequential Choice of option is based on likely consequences.
Preference-based Consequences are evaluated based on personal
preferences.
*Source: March and Heath, 1994
The Process of Decision-making
The process of: Recognizing decisions, and courses of action. Gathering information for each course of
action. Combining information to form overall
impressions of each course of action.
Decision Making and Risk No risk, no decision, right?
Risk in decision making Options
A choice between stocks versus bonds. Preference for consequence
Maximize short-term market share or profit to maximize share-holder wealth?
Suppose you had to choose between a powerful-but-heavy laptop versus a less powerful but ultra-light laptop,
Is there risk here? Is this a decision?
Where is risk in this decision?
Perspectives on Decision Making
Normative How decisions should be made, i.e., what makes for a good versus
bad decision.
Descriptive How decisions are made.
Prescriptive What decision making process should be interfered with to make
the optimal decision.
What Makes for a Good Decision?
Mutual Fund Choice
Suppose, an investment advisor gives you the following two options to invest in:
Fund A: 7.8% with volatility of about ± 0.6% Fund B: 11.7% with volatility of about ± 8%
Which Fund will you choose?
What does this mean for decision-making? In the end, it is a matter of preferences. We can only judge whether the decision process in the light
of the preferences.
Two biased coins.
You can choose the coin, and the call. If you call correctly, you get 100,000 tax free, 0 otherwise.
You choose coin B, and call “heads” and it lands “tails” up.
How good was your decision to choose coin B?Clearly Wrong 1---2---3---4---5---6---7 Clearly Right
Coin A: p(heads) = .45 Coin B: p(heads) = .55
Coin Toss
Source: Russo and Schoemaker, Winning Decisions
A small business has to choose between two technologies, A or B, to incorporate in the planned new product development and launch.
Based on all information, technology A has a 52% chance of success and B has 48%.
If they choose the correct technology platform, they will get net after tax profit of 7.5m for the year, and nothing if they fail.
They choose technology A, and the product fails, and a competitor chooses technology B, and their product succeeds.
How good was the decision to choose technology A?Clearly Wrong 1---2---3---4---5---6---7 Clearly Right
Product Development
Source: Russo and Schoemaker, Winning Decisions
What was your response?
Coin toss? Why?
Product launch? Why?
What Influences Decision Outcomes
Decision Outcome
Chance
Executing the Decision
Source: Russo and Schoemaker, Winning Decisions
Good outcomes do not imply good processes, nor do good processes guarantee good outcomes.
Good processes give the best odds of good outcomes.
Job Profiles
Imagine that you are looking to make choices on whether to apply for an on-campus job.
Companies vary on the following dimensions: Location:
Very Large Metro Metro Small Metro
Compensation Slightly Above Industry Average Industry Average Slightly Below Industry Average
Career Path Accelerated Industry Standard
Job Preference Questionnaire
For the attributes of location, compensation, and career path….
Please indicate much importance did you assess to each of them?
Complete questionnaire 1, put you ID number, return it.
Complete questionnaire 2, put your ID number, return it.
Session 1 – Take-aways
Decision making is based on consequentiality and preference.
Risk and decision-making go hand-in-hand.
Good decision-making involves good decision process more than outcome.