Multi-objective Decision Analysis

Risk Aversion and Utility

People familiar with the concept of expected value usually use it as the criterion for selecting among alternatives with uncertain outcomes when they are neutral about the risks involved in a decision. Risks are potential losses that might occur as a result of a decision. People tend to be risk neutral when the risks involved in a decision are small relative to their total assets.1 Decision makers are considered risk neutral with respect to a given set of alternatives with uncertain outcomes when they would sell the set of risky alternatives for its expected value.

For example, suppose a company has completed initial research and development on a new product. On the basis of initial testing, the director of research ...