Building uncertainty into cost-effectiveness rankings:  portfolio risk-return tradeoffs and implications for decision rules

B J O'Brien; M J Sculpher

Building uncertainty into cost-effectiveness rankings: portfolio risk-return tradeoffs and implications for decision rules

Centre for Health Economics

Research output: Contribution to journal › Article › peer-review

Abstract

BACKGROUND. Current principles of cost-effectiveness analysis emphasize the rank ordering of programs by expected economic return (eg, quality-adjusted life-years gained per dollar expended). This criterion ignores the variance associated with the cost-effectiveness of a program,yet variance is a common measure of risk when financial investment options are appraised. Variation in health care program return is likely to be a criterion of program selection for health care managers with fixed budgets and outcome performance targets.

METHODS. Characterizing health care resource allocation as a risky investment problem, we show how concepts of portfolio analysis from financial economics can be adopted as a conceptual framework for presenting cost-effectiveness data from multiple programs as mean-variance data.

RESULTS. TWO specific propositions emerge: (1) the current convention of ranking programs by expected return is a special case of the portfolio selection problem in which the decision maker is assumed to be indifferent to risk, and (2) for risk-averse decision makers, the degree of joint risk or covariation in cost-effectiveness between programs will create incentives to diversify an investment portfolio.

CONCLUSIONS. The conventional normative assumption of risk neutrality for social-level public investment decisions does not apply to a large number of health care resource allocation decisions in which health care managers seek to maximize returns subject to budget constraints and performance targets. Portfolio theory offers a useful framework for studying mean-variance tradeoffs in cost-effectiveness and offers some positive predictions (and explanations) of actual decision making in the health care sector.

Original language	English
Pages (from-to)	460-468
Number of pages	9
Journal	Medical Care
Volume	38
Issue number	5
Publication status	Published - May 2000

Keywords

portfolio theory
risk-return
diversification
resource allocation
cost-effectiveness
CONFIDENCE-INTERVALS
EFFECTIVENESS RATIOS
TRIAL

Cite this

@article{baaad3f9c22245938122937a047a36e5,

title = "Building uncertainty into cost-effectiveness rankings: portfolio risk-return tradeoffs and implications for decision rules",

abstract = "BACKGROUND. Current principles of cost-effectiveness analysis emphasize the rank ordering of programs by expected economic return (eg, quality-adjusted life-years gained per dollar expended). This criterion ignores the variance associated with the cost-effectiveness of a program,yet variance is a common measure of risk when financial investment options are appraised. Variation in health care program return is likely to be a criterion of program selection for health care managers with fixed budgets and outcome performance targets.METHODS. Characterizing health care resource allocation as a risky investment problem, we show how concepts of portfolio analysis from financial economics can be adopted as a conceptual framework for presenting cost-effectiveness data from multiple programs as mean-variance data.RESULTS. TWO specific propositions emerge: (1) the current convention of ranking programs by expected return is a special case of the portfolio selection problem in which the decision maker is assumed to be indifferent to risk, and (2) for risk-averse decision makers, the degree of joint risk or covariation in cost-effectiveness between programs will create incentives to diversify an investment portfolio.CONCLUSIONS. The conventional normative assumption of risk neutrality for social-level public investment decisions does not apply to a large number of health care resource allocation decisions in which health care managers seek to maximize returns subject to budget constraints and performance targets. Portfolio theory offers a useful framework for studying mean-variance tradeoffs in cost-effectiveness and offers some positive predictions (and explanations) of actual decision making in the health care sector.",

keywords = "portfolio theory, risk-return, diversification, resource allocation, cost-effectiveness, CONFIDENCE-INTERVALS, EFFECTIVENESS RATIOS, TRIAL",

author = "O'Brien, {B J} and Sculpher, {M J}",

year = "2000",

month = may,

language = "English",

volume = "38",

pages = "460--468",

journal = "Medical Care",

publisher = "Lippincott Williams and Wilkins",

number = "5",

}

TY - JOUR

T1 - Building uncertainty into cost-effectiveness rankings

T2 - portfolio risk-return tradeoffs and implications for decision rules

AU - O'Brien, B J

AU - Sculpher, M J

PY - 2000/5

Y1 - 2000/5

N2 - BACKGROUND. Current principles of cost-effectiveness analysis emphasize the rank ordering of programs by expected economic return (eg, quality-adjusted life-years gained per dollar expended). This criterion ignores the variance associated with the cost-effectiveness of a program,yet variance is a common measure of risk when financial investment options are appraised. Variation in health care program return is likely to be a criterion of program selection for health care managers with fixed budgets and outcome performance targets.METHODS. Characterizing health care resource allocation as a risky investment problem, we show how concepts of portfolio analysis from financial economics can be adopted as a conceptual framework for presenting cost-effectiveness data from multiple programs as mean-variance data.RESULTS. TWO specific propositions emerge: (1) the current convention of ranking programs by expected return is a special case of the portfolio selection problem in which the decision maker is assumed to be indifferent to risk, and (2) for risk-averse decision makers, the degree of joint risk or covariation in cost-effectiveness between programs will create incentives to diversify an investment portfolio.CONCLUSIONS. The conventional normative assumption of risk neutrality for social-level public investment decisions does not apply to a large number of health care resource allocation decisions in which health care managers seek to maximize returns subject to budget constraints and performance targets. Portfolio theory offers a useful framework for studying mean-variance tradeoffs in cost-effectiveness and offers some positive predictions (and explanations) of actual decision making in the health care sector.

AB - BACKGROUND. Current principles of cost-effectiveness analysis emphasize the rank ordering of programs by expected economic return (eg, quality-adjusted life-years gained per dollar expended). This criterion ignores the variance associated with the cost-effectiveness of a program,yet variance is a common measure of risk when financial investment options are appraised. Variation in health care program return is likely to be a criterion of program selection for health care managers with fixed budgets and outcome performance targets.METHODS. Characterizing health care resource allocation as a risky investment problem, we show how concepts of portfolio analysis from financial economics can be adopted as a conceptual framework for presenting cost-effectiveness data from multiple programs as mean-variance data.RESULTS. TWO specific propositions emerge: (1) the current convention of ranking programs by expected return is a special case of the portfolio selection problem in which the decision maker is assumed to be indifferent to risk, and (2) for risk-averse decision makers, the degree of joint risk or covariation in cost-effectiveness between programs will create incentives to diversify an investment portfolio.CONCLUSIONS. The conventional normative assumption of risk neutrality for social-level public investment decisions does not apply to a large number of health care resource allocation decisions in which health care managers seek to maximize returns subject to budget constraints and performance targets. Portfolio theory offers a useful framework for studying mean-variance tradeoffs in cost-effectiveness and offers some positive predictions (and explanations) of actual decision making in the health care sector.

KW - portfolio theory

KW - risk-return

KW - diversification

KW - resource allocation

KW - cost-effectiveness

KW - CONFIDENCE-INTERVALS

KW - EFFECTIVENESS RATIOS

KW - TRIAL

M3 - Article

VL - 38

SP - 460

EP - 468

JO - Medical Care

JF - Medical Care

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