tag:blogger.com,1999:blog-9140612503596105113.post725975916625365103..comments2023-04-07T14:21:19.083+03:00Comments on Decisions and Info-Gaps: Doing Our Best: Economics and OptimizationYakov Ben-Haimhttp://www.blogger.com/profile/10765902456064490854noreply@blogger.comBlogger3125tag:blogger.com,1999:blog-9140612503596105113.post-10597150203250405182012-01-27T17:20:22.994+02:002012-01-27T17:20:22.994+02:00I would feel very disappointed if ethics turned ou...I would feel very disappointed if ethics turned out to be no more than well understood self interest. <br /><br />Economic downturns such as (supposedly) in 2008 and now, are now commonly explained as utility maximization by greedy bankers and politicians. <br /><br />I believe that groupsism and cronyism are the culprits, only counting social reality between people within groups, not within people between groups because that is less salient.Ron de Weijzehttp://crpa.conoreply@blogger.comtag:blogger.com,1999:blog-9140612503596105113.post-52413987113598840402011-08-13T04:56:38.613+03:002011-08-13T04:56:38.613+03:00Thanks for your comment. Your question has two par...Thanks for your comment. Your question has two parts: how does info-gap theory compare with real options, and is info-gap theory applicable to real problems.<br /><br />Let me address these questions together, by explaining very briefly the basic idea of info-gap theory.<br /><br />Let's suppose that you must make a decision, based on data, understanding, models, and goals. For instance, you wish to make an investment decision based on a real options valuation (ROV). Very briefly, the ROV requires knowledge of possible future outcomes and available investor reactions, among other things. If the investor is confident that this information is available then the analysis proceeds confidently. However, there may be a disparity between what the investor needs to know (such as the plausible characterization of future contingencies) and what is actually known. This disparity is an info-gap, and it limits the the confidence in the ROV analysis.<br /><br />Info-gap theory is a methodology for dealing with info-gaps, such as described in the previous paragraph. Info-gap theory doesn't invent knowledge, but it does help manage its absence. The analyst has an understanding of the future, (e.g. of what contingencies could arise, etc) but is uncertain how wrong that understanding will turn out to be. An info-gap analysis begins by non-probabilistically quantifying this uncertainty. Then we ask: how wrong could our understanding be, and the investment we are considering will lead to an acceptable outcome? The answer to this question is the info-gap robustness. More robustness is better than less robustness, so the robustness establishes preferences over investments (or investment strategies).<br /><br />In summary, the question "How does info-gap compare with real options?" is not really the right question. The questions that need to be asked are "Do we confidently know enough to implement the ROV?" If the answer is affirmative, then do the ROV analysis and forget about info-gap theory. If the answer is negative, then we ask "How can info-gap supplement real options (or any other decision methodology) by modeling and managing the uncertainties?"<br /><br />This is only the very briefest of summaries. There is much more to info-gap theory, (for instance, the opportuneness function) just as there is much more to real options valuation. You may wish to read more about info-gap theory in general or about info-gap applied to economics in particular. Take a look at http://info-gap.com for lots of source material.<br /><br />Is info-gap theory useful in real decisions? Not always. It depends on the decision and its context. However, there are many examples where info-gap provides clear added value in decision making. Take a look at the many publications (many by authors other than myself) which are listed on info-gap.com.Yakov Ben-Haimhttps://www.blogger.com/profile/10765902456064490854noreply@blogger.comtag:blogger.com,1999:blog-9140612503596105113.post-24992261868089650692011-08-13T03:19:50.661+03:002011-08-13T03:19:50.661+03:00Prof. Ben-Haim,
in my limited and scholastic knowl...Prof. Ben-Haim,<br />in my limited and scholastic knowledge of finance ( I have a MBA in finance which I have never really used in the work place except for a few exceptions), firm evaluations are flawed. DCF does not work because it is too "static". Real options models could work in some cases althought most of the time the option price is computed using the European Option which is often not a good model, decision trees are garbage:-)...Hence I want to start from a general question: we are all faced with everyday decisions in the presence of uncertainty. It is the rule of life. The problem is making decisions that we cannot change later on when "environmental conditions" change and therefore, the company we decided to invest went bust because of act of God (say an earthquake that destroyed the supply chain). Real options model try to provide this flexibility that's lacking in DCF's. What are the merits and demerits of the info-gap compared to real options model? How well does it scale for real life problems? Thanks, PaoloPaolohttps://www.blogger.com/profile/13472065747184196982noreply@blogger.com