Stock Charted
Glossary

Expected Utility

Expected utility is the probability-weighted average of the satisfaction, or utility, an individual would receive from each possible outcome of an uncertain choice, used to compare risky options.

What Is Expected Utility?

Expected utility is a concept from decision theory that helps explain how people choose between uncertain options. Rather than comparing only the money an option might pay, it compares the subjective value, or utility, that a person assigns to each possible result. Each outcome's utility is weighted by its probability of occurring, and the weighted values are added together. The option with the higher total is the one a rational decision-maker would prefer under this framework.

How It Works

The calculation has three steps. First, list every possible outcome of a choice. Second, assign each outcome a probability, with the probabilities adding up to one. Third, assign each outcome a utility value that reflects how desirable it is to that person. The formula is:

EU = Σ (probability of outcome × utility of outcome)

Because utility is not the same as money, the framework can account for attitudes toward risk. A person whose utility rises more slowly than wealth is considered risk-averse, since a sure amount may be worth more to them than a gamble with the same average payoff.

An Example

Consider a choice between a guaranteed payment of 50 units and a coin flip that pays 100 units on heads and 0 on tails. Both options have the same expected monetary value of 50. Under expected utility, the choice depends on the shape of the person's utility curve. If the person has diminishing returns on money, the sure 50 units may have a higher expected utility, so they would pick it. A person with a different curve could reach the opposite conclusion.

Why It Matters to Investors

Expected utility is the foundation of many models in portfolio theory and risk aversion. It helps explain why investors often demand a higher expected return for holding riskier assets. It also shows that two people facing identical odds may reasonably make different choices. The concept is a model rather than a prediction of exact behavior, and real investors often deviate from it because of limited information, emotion, and cognitive biases.

Updated November 4, 2026. For general education only; not financial, tax or legal advice.

Browse the Glossary

Related Terms

Utility Stock

A utility stock is a share in a company that supplies essential services such as electricity, natural gas, or water, often under government regulation, and is typically valued for steady demand and dividends.

Expected Return

Expected return is the average profit or loss an investor can anticipate from an investment, calculated by weighting each possible outcome by its estimated probability.

Risk Premium

The extra return an investor expects or receives for holding a riskier asset compared with a risk-free alternative, such as a government bond, to compensate for uncertainty.

Certainty Equivalent

A certainty equivalent is the guaranteed amount of money an investor would accept in place of a risky outcome with the same expected value. For risk-averse investors, it is lower than that expected value.