Risk and Diversification

This lecture explores the concept of risk in decision-making, using lotteries as examples to illustrate how individuals evaluate potential gains and losses. The instructor discusses the notion of certainty equivalent and risk premium, demonstrating how risk aversion influences decision-making. Furthermore, the lecture delves into the importance of diversification in reducing risk by combining assets with opposite risk profiles, such as in investment portfolios or electricity generation strategies. By examining scenarios involving different lotteries and real-world examples like real estate investments and energy generation, the lecture highlights the benefits of diversification in mitigating risk and enhancing overall stability in decision-making processes.