Uncertainty and Capital Investment Decisions

  • Thomas A. Noll
Conference paper

Abstract

Uncertainty is often incorporated into capital investment decisions by adjusting the discount rate. Adjusting the discount rate is a useful technique for sensitivity analysis, but discount rate adjustments may not adequately address the relative uncertainty of projects. This paper examines an alternative strategy which is based on probability theory and the analytical framework of the Capital Asset Pricing Model (CAPM). The advantage of the Capital Asset Pricing Model is that the variability in the return stream and the timing of the return stream are directly considered in the analysis. The results of the CAPM analysis can then be used to compare alternative projects and strategies.

Keywords

Covariance Income Volatility 

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References

  1. 1.
    Fama, E. F., Foundations of Finance, New York: Basic Books, 1976.Google Scholar
  2. 2.
    Garbade, K. D., Securities Markets, New York: McGraw-Hill, 1982.Google Scholar
  3. 3.
    Larson, H. J., Introduction to Probability and Statistical Inference, Third Edition, New York: John Wiley, 1982.MATHGoogle Scholar
  4. 4.
    Wilson, R. “Risk Measurements in Public Projects,” in R. Lind (editor), Discounting for Time and Risk in Energy Policy, Resources for the Future Inc. 1982, 205–209.Google Scholar

Copyright information

© Springer-Verlag New York Inc. 1991

Authors and Affiliations

  • Thomas A. Noll
    • 1
  1. 1.Hercules AerospaceMagnaUSA

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