Tree Diagram

AAA

DEFINITION of 'Tree Diagram'

A diagram used in strategic decision making, valuation or probability calculations. The diagram starts at a single node, with branches emanating to additional nodes, which represent mutually exclusive decisions or events. In the diagram below, the analysis will begin at the first blank node. A decision or event will then lead to node A or B. From these secondary nodes, additional decisions or events will occur leading to the third level of nodes, until a final conclusion is reached.

Tree Diagram

INVESTOPEDIA EXPLAINS 'Tree Diagram'

Using the diagram is simple once you assign the appropriate values to each node. Chance nodes, representing a possible outcome, must be assigned a probability. Decision nodes ask a question and must be followed by answer nodes, such as "yes" or "no". Often, a value will be associated with a node, such as a cost or a payout. Tree diagrams combine the probabilities, decisions, costs and payouts of a decision and provide a strategic answer.

RELATED TERMS
  1. Functional Decomposition

    A method of business analysis that dissects a complex business ...
  2. Decision Tree

    A schematic tree-shaped diagram used to determine a course of ...
  3. Option

    A financial derivative that represents a contract sold by one ...
  4. Financial Modeling

    The process by which a firm constructs a financial representation ...
  5. Option Pricing Theory

    Any model- or theory-based approach for calculating the fair ...
  6. Binomial Option Pricing Model

    An options valuation method developed by Cox, et al, in 1979. ...
Related Articles
  1. Options & Futures

    Reducing Risk With Options

    If you want to use leverage to your advantage, you must know how many contracts to buy.
  2. Investing Basics

    Pin Down Stock Price With Real Options

    How can you assign a value to what a company may do with its business in the future? We explain how it works.
  3. Fundamental Analysis

    Find The Right Fit With Probability Distributions

    Discover a few of the most popular probability distributions and how to calculate them.
  4. Options & Futures

    The "True" Cost Of Stock Options

    Perhaps the real cost of employee stock options is already accounted for in the expense of buyback programs.
  5. Active Trading Fundamentals

    Bet Smarter With The Monte Carlo Simulation

    This technique can reduce uncertainty in estimating future outcomes.
  6. Investing

    How to Use Stratified Random Sampling

    Stratified random sampling is a technique best used with a sample population easily broken into distinct subgroups. Samples are then taken from each subgroup based on the ratio of the subgroup’s ...
  7. Economics

    How A Limited Government Affects A Country's Finances

    Countries with limited governments have fewer laws about what individuals and businesses can and can’t do. What's the net result?
  8. Fundamental Analysis

    Lognormal and Normal Distribution

    When and why do you use lognormal distribution or normal distribution for analyzing securities? Lognormal for stocks, normal for portfolio returns.
  9. Investing Basics

    How Does Goodwill Affect Financial Statements?

    Goodwill is a bit of a paradox--intangible, yet it is recorded as an asset on the purchasing company's balance sheet.
  10. Investing Basics

    Using Normal Distribution Formula To Optimize Your Portfolio

    Normal or bell curve distribution can be used in portfolio theory to help portfolio managers maximize return and minimize risk.

You May Also Like

Hot Definitions
  1. Risk Averse

    A description of an investor who, when faced with two investments with a similar expected return (but different risks), will ...
  2. Fixed-Charge Coverage Ratio

    A ratio that indicates a firm's ability to satisfy fixed financing expenses, such as interest and leases. It is calculated ...
  3. Efficiency Ratio

    Ratios that are typically used to analyze how well a company uses its assets and liabilities internally. Efficiency Ratios ...
  4. Fixed Cost

    A cost that does not change with an increase or decrease in the amount of goods or services produced. Fixed costs are expenses ...
  5. Subsidy

    A benefit given by the government to groups or individuals usually in the form of a cash payment or tax reduction. The subsidy ...
  6. Sunk Cost

    A cost that has already been incurred and thus cannot be recovered. A sunk cost differs from other, future costs that a business ...
Trading Center