Journal Article | Management Science | 63 | September 2017
Between First- and Second-Order Stochastic Dominance
The authors 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.
The authors relate their 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, the authors extend the results to a combined order including convex (risk-taking) stochastic dominance.
