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TeachMeFinance.com
We can measure risk by using standard deviation. Higher standard deviation means higher risk.
Here is the example from the probability distribution page
Probability Distribution - In Business
| Economic Outcome | Probability | Return on Investment |
| Great | 20% | 25% |
| Good | 40% | 15% |
| So-So | 30% | 5% |
| Really Bad | 10% | 0% |
(Sorry, I don't know how to write sigma and the square
root sign in html, so I can't show you the formula for
Standard Deviation, but you can still plug in your
numbers to the chart below)
| Economic Outcome | Return on Investment | minus | ERR - the Expected Rate of Return | equals | answer | squared | times | Probability of the Economic Outcome | equals | Answer |
| Great | 25% | - | 12.5% | = | 12.5 | 156.25 | X | 20% | = | 31.25 |
| Good | 15% | - | 12.5% | = | 2.5 | 6.25 | X | 40% | = | 2.5 |
| So-So | 5% | - | 12.5% | = | 7.5 | 56.25 | X | 30% | = | 16.875 |
| Really Bad | 0% | - | 12.5% | = | 12.5 | 156.25 | X | 10% | = | 15.625 |
| Total | = | 66.25 |
- So the total is 66.25. This is called the Variance.
- The square root of 66.25 = 8.139
- So the Standard Deviation is 8.139
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