7. Managing Supply Chain Inventory Flows

Component Risk Pooling

Risk pooling,1 the portfolios effect, and safety stock aggregation all refer to the same idea, which we will call risk pooling. Risk pooling is the phenomenon whereby combining demand streams reduces the amount of safety stock because the sum of random variables has lower levels of relative uncertainty than the aggregate amount of uncertainty of the individual random variables. This is true as long as the correlation of the random variables is less than one. The implication is that less safety stock is required. For example, if two different demand markets are fulfilled from two different distribution centers, less safety stock would be required if only one distribution center served ...

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