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Between First- and Second-Order Stochastic Dominance

Author

Listed:
  • Alfred Müller

    (Department Mathematik, Universität Siegen, 57072 Siegen, Germany)

  • Marco Scarsini

    (Dipartimento di Economia e Finanza, LUISS, I–00197 Roma, Italy)

  • Ilia Tsetlin

    (INSEAD, Singapore 138676)

  • Robert L. Winkler

    (Fuqua School of Business, Duke University, Durham, North Carolina 27708)

Abstract

We develop a continuum of stochastic dominance rules, covering preferences from first- to second-order stochastic dominance. The motivation for such a continuum is that while decision makers have a preference for “more is better,” they are mostly risk averse but cannot assert that they would dislike any risk. For example, situations with targets, aspiration levels, and local convexities in induced utility functions in sequential decision problems may lead to preferences for some risks. We relate our continuum of stochastic dominance rules to utility classes, the corresponding integral conditions, and probability transfers and discuss the usefulness of these interpretations. Several examples involving, e.g., finite-crossing cumulative distribution functions, location-scale families, and induced utility, illustrate the implementation of the framework developed here. Finally, we extend our results to a combined order including convex (risk-taking) stochastic dominance.

Suggested Citation

  • Alfred Müller & Marco Scarsini & Ilia Tsetlin & Robert L. Winkler, 2017. "Between First- and Second-Order Stochastic Dominance," Management Science, INFORMS, vol. 63(9), pages 2933-2947, September.
    • Handle: RePEc:inm:ormnsc:v:63:y:2017:i:9:p:2933-2947
    DOI: 10.1287/mnsc.2016.2486
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    References listed on IDEAS

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