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Determining Expected Utility and Entropy Ratio in the Expected Utility-Entropy Decision Model for Stock Selection Depending on Capital Market Development
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Author(s): Branka Marasović (Faculty of Economics, Business, and Tourism, University of Split, Croatia), Tea Kalinić (Faculty of Economics, Business, and Tourism, University of Split, Croatia)and Ivana Jerković (Faculty of Economics, Business, and Tourism, University of Split, Croatia)
Copyright: 2021
Pages: 21
Source title:
Recent Applications of Financial Risk Modelling and Portfolio Management
Source Author(s)/Editor(s): Tihana Škrinjarić (University of Zagreb, Croatia), Mirjana Čižmešija (University of Zagreb, Croatia)and Bryan Christiansen (Global Training Group, Ltd, UK)
DOI: 10.4018/978-1-7998-5083-0.ch001
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Abstract
Appropriate securities selection is an important step in formation of an investment portfolio. The expected utility-entropy (EU-E) decision-making model is one of the models that can be applied to investment portfolio stock selection. The decision-maker subjective preference is reflected by the expected utility, and the objective uncertainty is measured using Shannon entropy. In this model, the measure of risky action is the weighted linear average of expected utility and entropy using a risk tradeoff factor. This chapter tests whether tradeoff coefficient depends on capital market development. With this aim, EU-E model was applied on European Union (EU) capital markets with different development according to FTSE equity country classification. It tests whether the EU-E model applied to the three different capital markets gives the best stock selection results for the same tradeoff coefficient values, or whether tradeoff coefficient depends on capital market development.
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