Risk and uncertainty techniques

In this lesson

1. 0:00 Lesson nine: risk and uncertainty overview
2. 0:25 Risk versus uncertainty definitions
3. 1:00 Quantifying risk in investment appraisal
4. 1:45 Expected value calculation method
5. 3:03 Sensitivity analysis explained
6. 4:34 Monte Carlo simulation approach

About this lesson

payback analysis. The lesson starts by clarifying the difference between risk and uncertainty. Risk involves outcomes you can assign probabilities to based on prior experience, making it quantifiable and buildable into net present value calculations. Uncertainty lacks that historical data, making probabilities harder to assign. As you progress through the techniques, you'll learn how to calculate expected value (a probability-weighted average) to incorporate multiple possible outcomes into your appraisal. You'll then explore sensitivity analysis, which identifies which variables in your net present value model are most sensitive to change—meaning small shifts in those variables could swing your decision from accept to reject. The lesson introduces Monte Carlo simulation as a more sophisticated approach that overcomes sensitivity analysis limitations by testing multiple variables changing simultaneously, rather than one at a time. This generates a probability distribution of possible net present value outcomes, though it requires computer modelling rather than simple spreadsheet work. Understanding when and how to apply each technique will strengthen your ability to evaluate projects under conditions of risk and make more robust investment decisions.

Duration: 6m