certainty equivalent

Certainty Equivalent

The return that would be accepted for the chance at a higher, but uncertain, amount.

Notes:

This is useful in determining what return investors will require from your company. In other words, at what return would an investor in a certain (risk-free) investment be enticed to invest in your higher paying, yet more risky, investment.

See also: Risk Free Rate, Risk Return Tradeoff

---

Certainty equivalent

An amount that would be accepted today (risk free) in lieu of a chance to receive a possibly higher, but uncertain, amount.

---

certainty equivalent

The minimum sum of money a person would accept to forgo the opportunity to participate in an event for which the outcome, and therefore his or her receipt of a reward, is uncertain. For example, suppose you are told to draw one card from a full deck of cards. If you draw a red card you win $100 and if you draw a black card you win nothing. If you would accept $40 to forgo the selection and possibility of winning, $40 is the certainty equivalent of the outcome of the event. Certainty equivalents are used in evaluating risk.