SUMMARY OF DECISION TREE, REVISING THE

JUDGEMENTS AND BIASES IN PROBABILITY

ASSESMENT





ASSIGNMENT FOR DECISION MAKING CLASS

NAME : Kuspratama
NIM : 29113021
CLASS : R 49B



MBA-ITB
YOUNG PROFESSIONAL PROGRAM
2014

1

Chapter 6 Decision Tree

Decision Trees are excellent tools for helping you to choose between several courses
of action. They provide a highly effective structure within which you can lay out options and
investigate the possible outcomes of choosing those options. They also help you to form a
balanced picture of the risks and rewards associated with each possible course of action.
Drawing a Decision Tree

You start a Decision Tree with a decision that you need to make. Draw a small square
to represent this towards the left of a large piece of paper.From this box draw out lines
towards the right for each possible solution, and write that solution along the line. Keep the
lines apart as far as possible so that you can expand your thoughts.

At the end of each line, consider the results. If the result of taking that decision is
uncertain, draw a small circle. If the result is another decision that you need to make, draw
another square. Squares represent decisions, and circles represent uncertain outcomes. Write
the decision or factor above the square or circle. If you have completed the solution at the end
of the line, just leave it blank.

Starting from the new decision squares on your diagram, draw out lines representing
the options that you could select. From the circles draw lines representing possible outcomes.
Again make a brief note on the line saying what it means. Keep on doing this until you have
drawn out as many of the possible outcomes and decisions as you can see leading on from the
original decisions. An example of the sort of thing you will end up with is shown in Figure 1:


2

Once you have done this, review your tree diagram. Challenge each square and circle
to see if there are any solutions or outcomes you have not considered. If there are, draw them
in. If necessary, redraft your tree if parts of it are too congested or untidy. You should now
have a good understanding of the range of possible outcomes of your decisions.

Evaluating Your Decision Tree

Now you are ready to evaluate the decision tree. This is where you can work out
which option has the greatest worth to you. Start by assigning a cash value or score to each
possible outcome. Estimate how much you think it would be worth to you if that outcome
came about.
Next look at each circle (representing an uncertainty point) and estimate the probability of
each outcome. If you use percentages, the total must come to 100% at each circle. If you use
fractions, these must add up to 1. If you have data on past events you may be able to make
rigorous estimates of the probabilities. Otherwise write down your best guess.

In brief, a decision tree may be defined as a diagram that sets out the options connected with
a decision and the outcomes that may result from 'chance', following these options.
It is constructed from left to right
Each branch of the tree represents an option together with a range of consequences or
outcomes and the chances of these occurring
Decision points are denoted by a square - these are decision nodes.
A circle shows that a range of outcomes may occur - a chance node.
Probabilities are shown alongside each of these possible outcomes. These probabilities are
the numerical values of an event occurring - they measure the 'chance' of an outcome
occurring
The pay-offs are the expected financial gains or losses of a particular outcome
By comparing the likely financial results from each option, the manager can minimize the
risks involved
The typical method of constructing such a tree is as follows:
1. Identify all the possible courses of action
2. List the possible results, i e 'states of nature' of each course of action specified in (1) above
3. Calculate the pay-off of each possible combination of courses of action and results The
payoff is normally in monetary terms
4. Assign probabilities to the different possible results for each given course of action The
probability indicates the likelihood of occurrence of a particular result or event
5. Compute the expected value - the probability of an event occurring multiplied by the
expected result if it does occur
6. Finally, select the course of action that gives the maximum pay off
e.g. The manager of an event management company has to decide between holding a fund-
raising auction indoors or outdoors. The financial success of the event depends not only on
the weather but also on the decision to hold it indoors or outdoors.

Advantages using decision tree
1. The decision tree approach structures the decision process and thus helps one in making a
decision in a systematic manner
3

2. The approach necessitates that the decision maker considers all possible outcomes
regardless of whether they are desirable or undesirable Thus, no possible outcome is likely
to be left out in decision making
3. The decision tree approach is helpful in communicating the decision-making process to
others in a very succinct manner, clearly indicating the assumptions used
4. Attention can be focused on each individual financial figure, probability, as also the
underlying assumption, one at a time
5. The decision tree can be used with a computer which means that different sets of
assumptions can be used to ascertain their influence on the final outcome
Limitations using decision tree
1. Decision trees need time and money to complete As such, they are unsuitable for minor
decisions where their cost may exceed the benefit to be derived from them
2. As the information is presented in a quantitative form, there is a risk that it may be taken
as exact It is necessary to ensure that the information used in the decision tree is reliable
3. The information required for this approach may not be available because a particular
decision was not taken before and hence there is no evidence on which the probability can
be assumed
4. Non-quantifiable factors such as people's attitudes, government policy, etc, may be more
important but these do not enter into a decision tree

Chapter 8 Revising Judgements in the Light of New Information

THE ROLE OF COMPARISON OPPORTUNITY IN JUDGMENT REVISION

Challenges of equal negativity (i.e., scale value) may vary in the degree to which they
facilitate comparisons between the target and potential competitors. Some challenges allow
for easy comparisons between the target and potential competitors along judgment-relevant
dimensions; other challenges do not. Prior research that investigated the effects of the amount
of attitude relevant information available (Haugtvedt et al., 1994; Wood, 1982) and
elaboration (Haugtvedt & Wegener, 1994) considered only one type of challenge
counterattitudinal information about the target with no reference to any competitor. Such
challenges, by their very nature, offer very little opportunity to compare the target with any
other object. Challenges provide strong opportunity for competitive comparisons whenever
two conditions are met: (1) the judge has joint access to both target and competitor
information on judgmentrelevant dimensions and (2) the two sets of information are
commensurable.

The first conditionjoint access to target and competitor informationcan be met in
several ways. First, the challenge may explicitly provide information about both the target
and its competitors. That is, both target and competitor information would be externally
available for judgment updating. This is the case, for instance, in comparative advertisements
4

and in many equity-analysis reports. Second, the challenge may only provide information
only about the competitor, but the judge can pit this information against information about
the target that is highly available in memory. The competitor information would be externally
available during judgment updating, whereas the target information would be internally
available. For instance, consumers may compare newly revealed information about a superior
competitor brand with their recollection of the target brands attributes.

The second conditioncommensurability of the target and competitor information refers
to the degree to which side-by-side examination of the target and competitor information
allows the detection of superiority relations among the alternatives in terms of one or more
attributes. Commensurability therefore depends on whether the alternatives are described
along common as opposed to unique attributes (Slovic & MacPhillamy, 1974). It also
depends on the format of the supplied information. Certain information formats may hinder
comparisons even though the alternatives are described along common dimensions. For
instance, an advertisement for Car X that may emphasize the benefit of high gas mileage by
specifying the number of miles per gallon (mpg) that the car offers, whereas another
advertisement for Car Y may promote the same benefit without providing a specific mpg
value (Excellent MPG). Although both cars are described along a common dimension,
commensurability would be low because side-by-side comparison of the two claims would
not unambiguously reveal the superiority of one car over the other.

Therefore, commensurability is the sole determinant of comparison opportunity in
stimulus-based decisions, where information about all alternatives is readily available at the
time of judgment. However, in most judgment revision situations, memory plays a significant
role because the judge needs to recall information that was learned previously (Alba,
Hutchinson, & Lynch, 1991; Weber, Goldstein, & Barlas, 1995). In such situations, along
with commensurability of the target and competitor attributes, an accurate recall of the values
of the targets attributes is necessary for a competitor challenge to promote comparison.


Because people encounter information that challenges their prior evaluations almost
every day, the determinants of judgment revision need to be better understood. It is obvious
that judgment revision will depend on the relative scale value of the challenging information.
Various streams of research suggest that judgment revision may also be inversely related to
the amount and elaboration of the information that supports the prior evaluation. The present
research investigated the role of a hitherto unexamined factoropportunity for comparison
produced by the challengein judgment revisions. Consistent with the comparisonrevision
hypothesis, the results from four experiments indicate that whenever challenges facilitate
comparisons between the target and its competitors, these comparisons generally carry a
disproportionate weight in the revised judgments. Strong opportunities for comparison may
attenuate and, at times, reverse the previously documented negative relationship between
amount and elaboration of prior information and judgment revision.


5






Chapter 9 Biases in Probability Assesment

Many decisions in the modern world are based on subjective probabilities. Subjective
probabilities guide discussions of critical issues because objective probabilities are often
undefined in many situations in which people wish to use the language of probability to plan
for future events. For example, the Star Wars, strategic defense initiative would seem a
good idea if it appeared likely to reduce the likelihood of nuclear war or to increase the
chances of survival given accidental nuclear attack. On the other hand, some argue that if one
side were to develop a defense system that was perceived to be 50% effective, the other side
might decide to double their arsenal of weapons to restore the balance of terror. Such
increases in arms could increase the likelihood that the weapons would be used and therefore
increase the chance of nuclear war and thereby increase the chance that the world will be
destroyed by nuclear war. Notice that these arguments involve intuitive probabilities that the
weapons will work, that certain actions would be taken by one side or the other, or that an
accident might occur. These intuitive probabilities and the decisions they engender will
determine the future of the planet, yet they cannot be checked for their accuracy.
With enough replicas of the earth and enough time, perhaps a very powerful
experimenter could observe the proportion of earth replicas annihilated by nuclear war with or
without any given policy. Such experiments could in principle provide an empirical basis for
decision making. However, in the absence of such experiments, such likelihoods are left to be
determined by human judgment. The survival of the planet now rests on the capability of
humans to evaluate probability and to make proper decisions in the face of uncertainty.
Unfortunately, when psychologists study human judgments of probability, judged
probabilities do not conform to the equations of probability theory. Because probability
theory offers such a convenient and compelling structure for discussing beliefs about
ambiguous and uncertain events, many scholars have found it disturbing to think that humans
might have been rational enough to invent probability theory but not rational enough to use it
in their daily thought. This chapter will explore explanations of the discrepancies between
judged probabilities and the implications of probability theory.
Subjective and Judged Probability
Deviations between implications of probability theory and judgments of probability
may occur because subjective events do not obey the algebra of sets, because subjective
probabilities do not obey the calculus of probability theory, or because probability judgments
have not been properly scaled.

6

The first issue is whether people use the same representation of events as the investigator. For
example, the English words, and and or, which are assumed to refer to conjunctions and
unions, have different meanings in different sentences. For instance, in the sentence, to enter
this bar, you must have either a drivers licence or a military I.D. showing you are older than
21 years, people correctly understand that both I.D.s would be acceptable. Similarly, people
take and to denote the conjunction in the sentence, to cash a check here you need a drivers
licence and a credit card.
However, sometimes and and or have other meanings. In the sentence, either
you return my wallet or I will punch you in the nose, people would be surprised if the wallet
were returned and the punch were delivered, presumably because or in some cases implies
the union excluding the intersection, as it does in the sentence, an assistant professor must
either publish or perish. The term, and sometimes refers to the union, as in the sentence,
only women and children may enter the lifeboats. Because the probability of a union often
exceeds the probability of the constituents, miscommunication concerning the word and
could explain conjunction fallacies. Tversky and Kahneman (1983) discussed this possibility
and concluded that subjects indeed interpreted their conjunction problems in the fashion
intended. In this chapter, the issue of subjective algebra of events will also receive less
emphasis, but a complete theory of probabilistic reasoning will eventually need to include a
theory of the subjective analysis of propositions (Wason & Johnson-Laird, 1972).
The second issue is to determine the calculus of subjective probability. If people do
not obey probability theory, what laws would explain probability judgments? Perhaps another
coherent structure interlocks judgments of probability in some consistent, if strange, fashion.
It is possible that intuitive probability judgments form a workable structure that differs from
the system in probability theory. Perhaps they form a system that would be considered
acceptable for certain situations, but unacceptable for others. For example, people might be
fairly accurate at estimating the value of a basket of groceries, but when cash is to be
exchanged, both parties feel better when intuitive judgments can replaced by explicit
calculations in the supermarket. Nevertheless, investors will buy and sell real estate where the
calculations by necessity are much cruder. Similarly, an engineer may have expertise enough
to realize whether the design of a freeway overpass will withstand earthquakes of expected
magnitudes, but people want to see (and the law requires) explicit calculations, because expert
intuitions are sometimes wrong. The point here is that we need to explain the facts that people
can be fairly accurate and consistent and yet can still make systematic deviations.
The third issue is to determine the relationship between subjective and judged
probability. This issue is analogous to the concept of the judgment function in
psychophysical and social judgment (Birnbaum, 1982). Some investigators have implicitly
assumed that judged probabilities can be interpreted as subjective probabilities. However,
Varey, Mellers, and Birnbaum (in press) observed that judged proportions in visual displays
show the same sorts of contextual effects as do other types of psychophysical stimuli.