Intro To Inferential Stat

Introduction to Inferential
Statistics
•Basic Probability
•Probability Distribution
•The Normal Distribution
Learning Objectives
In this chapter, you will learn:

• Basic probability concepts
• The properties of a probability distribution
• To compute the expected value and variance of a
probability distribution
• To calculate the covariance and understand its
use in finance
• To compute probabilities from the normal
distribution.
• How to use these distributions to solve business
problems
Statistics for Managers Using
Microsoft Excel, 5e © 2008
Pearson Prentice-Hall, Inc.
Chap 4-1
Definitions
• Probability: the chance that an

uncertain event will occur (always
between 0 and 1)
• Event: Each possible type of
occurrence or outcome
• Sample Space: the collection of all
possible events

Chap 4-2
Example
Find the probability of selecting a male taking statistics

from the population described in the following table:
Taking Not Taking Total

Stats Stats
Male 84 145 229
Female 76 134 210
Total 160 279 439
number of males taking stats 84

Probabilit y of Male Taking Stats    0.191
total number of people 439
Chap 4-3
Mutually Exclusive Events
• Mutually exclusive events are events

that cannot occur together
(simultaneously).
• example:
– A = today is raining; B = today is not raining
– Events A and B are mutually exclusive

Chap 4-4
Probability
Summary So Far
• Probability is the numerical measure 1 Certain

of the likelihood that an event will
occur.
• The probability of any event must be

between 0 and 1, inclusively
– 0 ≤ P(A) ≤ 1 for any event A. .5
• The sum of the probabilities of all
mutually exclusive events is 1.
– P(A) + P(B) + P(C) = 1
– A, B, and C are mutually exclusive
0 Impossible
General Addition Rule
General Addition Rule:
P(A or B) = P(A) + P(B) - P(A and B)
If A and B are mutually exclusive, then

P(A and B) = 0, so the rule can be simplified:
P(A or B) = P(A) + P(B)

for mutually exclusive events A and B
Chap 4-6
General Addition Rule
Example
Find the probability of selecting a male or a statistics student
from the population described in the following table:
Taking Stats Not Taking Stats Total
Male 84 145 229
Female 76 134 210
Total 160 279 439
P(Male or Stat) = P(M) + P(S) – P(M and S)

= 229/439 + 160/439 – 84/439 = 305/439
Chap 4-7
Conditional Probability
• A conditional probability is the probability of one

event, given that another event has occurred:
P(A and B)
P(A | B)  The conditional
P(B) probability of A given
that B has occurred
P(A and B) The conditional

P(B | A)  probability of B given
P(A) that A has occurred
Where P(A and B) = probability of A and B

P(A) = probability of A
P(B) = probability of B Statistics for Managers
Using Microsoft Excel,
5e © 2008 Pearson
Prentice-Hall, Inc.
Chap 4-8
Example Computing Conditional Probability
What is the probability that a car has a CD
player, given that it has AC ?
CD No CD Total
AC 0.2 0.5 0.7
No 0.2 0.1 0.3

AC
Total 0.4 0.6 1.0
P(CD and AC) .2

P(CD | AC)    .2857
P(AC) .7
Given AC, we only consider the top row (70% of the cars). Of these,
20% have a CD player. 20% of 70% is about 28.57%.
Chap 4-9
Statistical Independence
• Two events are independent if and only if:
P(A | B)  P(A)
• Multiplication rule for two events A and B:
P(A and B)  P(A | B) P(B)
• If A and B are independent, then P(A | B)  P(A)

and the multiplication rule simplifies to:
P(A and B)  P(A) P(B)
Chap 4-10
Probability Distribution
Overview
Probability
Distributions
Discrete Continuous
Probability Probability
Distributions Distributions
Random Variable Probability Distribution

Chap 5-11
Discrete Random Variables
Expected Value
Expected Value (or mean) of a discrete Number of Probability
distribution (Weighted Average) Classes Taken
N
  E(X)   X i P( X i ) 2 0.2
i 1
3 0.4
• Compute the expected
value for the given 4 0.24
distribution: 5 0.16
E(X) = 2(.2) + 3(.4) + 4(.24) + 5(.16) = 3.36

So, the average number of classes taken is 3.36.

Chap 5-12
Discrete Random Variables
Dispersion
• Variance of a discrete random variable
N
σ   [Xi  E(X)]2 P(Xi )
2
i 1
• Standard Deviation of a discrete random variable
N
σ σ  2
 i
[X
i 1
 E(X)]2
P(Xi )
where:
E(X) = Expected value of the discrete random variable X
Xi = the ith outcome of X
P(Xi) = Probability of the ith occurrence of X

Chap 5-13
Investment Returns
The Mean
Consider the return per $1000 for two types of
investments.
Investment
Economic
Passive Fund X Aggressive Fund Y
P(XiYi) Condition
0.2 Recession - $25 - $200
0.5 Stable Economy + $50 + $60
0.3 Expanding Economy + $100 + $350

Chap 5-14
Investment Returns
The Mean
E(X) = μX = (-25)(.2) +(50)(.5) + (100)(.3) = 50
E(Y) = μY = (-200)(.2) +(60)(.5) + (350)(.3) = 95
Interpretation: Fund X is averaging a $50.00

return and fund Y is averaging a $95.00 return
per $1000 invested.

Chap 5-15
Investment Returns
Standard Deviation
σ X  (-25  50) 2 (.2)  (50  50) 2 (.5)  (100  50) 2 (.3)

 43.30
σ Y  (-200  95) 2 (.2)  (60  95) 2 (.5)  (350  95) 2 (.3)

 193.71
Interpretation: Even though fund Y has a higher

average return, it is subject to much more variability
and the probability of loss is higher.

Chap 5-16
Covariance
• Covariance formula:
N
σ XY   [ X i  E ( X )][(Yi  E (Y )] P( X iYi )
i 1
where: X = discrete variable X

Xi = the ith outcome of X
Y = discrete variable Y
Yi = the ith outcome of Y
P(XiYi) = probability of occurrence of the condition affecting
the ith outcome of X and the ith outcome of Y
Chap 5-17
Investment Returns
Covariance
σ XY  (-25  50)(-200  95)(.2)  (50  50)(60  95)(.5)

 (100  50)(350  95)(.3)
 8250
Interpretation: Since the covariance is large

and positive, there is a positive relationship
between the two investment funds, meaning
that they will likely rise and fall together.

Chap 5-18
Continuous Probability Distribution:
The Normal Distribution
• ‘Bell Shaped’ f(X)

• Symmetrical
• Mean, Median and Mode are equal
• Location is characterized by the σ
mean, μ
μ
• Spread is characterized by the
standard deviation, σ Mean
• The random variable has an infinite = Median
theoretical range: - to + = Mode

Chap 6-19
The Normal Distribution
Shape
By varying the parameters μ and σ, we obtain

different normal distributions
Chap 6-20
The Standardized Normal
Distribution
 Translate from X to the standardized normal (the

“Z” distribution) by subtracting the mean of X and
dividing by its standard deviation:
X μ
Z 1
σ Z
0
Values above the mean have positive Z-values, values
below the mean have negative Z-values
Chap 6-21
Distribution: Example
 If X is distributed normally with mean of 500 and

standard deviation of 100, the Z value for X = 620
is
X  μ 620  500
Z   1.2
σ 100
 This says that X = 620 is 1.2 standard deviations

above the mean of 500.

Chap 6-22
Distribution: Example
500 620 X (μ = 500, σ = 100)

0 1.2 Z (μ = 0, σ = 1)
Note that the distribution is the same, only the

scale has changed. We can express the problem
in original units (X) or in standardized units (Z)
Chap 6-23
Normal Probabilities
The total area under the curve is 1.0, and the curve is
symmetric, so half is above the mean, half is below.
f(X) P(   X  μ)  0.5
P(μ  X   )  0.5
0.5 0.5
P(   X  )  1.0
Chap 6-24
Normal Probability Tables
 The Standardized Normal table gives the

probability less than a desired value for Z
(i.e., from negative infinity to Z)
.9772
Example:
P(Z < 2.00) = .9772
0 2.00 Z

Chap 6-25
Normal Probability Tables
The column gives the value of Z

to the second decimal point
Z 0.00 0.01 0.02 …
The row shows 0.0

the value of Z to 0.1
the first decimal . The value within the
point
. table gives the
.
2.0 .9772 probability from Z = 
 up to the desired Z
value.
2.0
P(Z < 2.00) = .9772
Chap 6-26
Finding Normal Probability
Example
• Let X represent the time it takes (in seconds) to

download an image file from the internet.
• Suppose X is normal with mean 8.0 and
standard deviation 5.0
• Find P(X < 8.6)
X
8.0
8.6 Statistics for Managers Using
Chap 6-27
Example
 Suppose X is normal with mean 8.0 and

standard deviation 5.0. Find P(X < 8.6).
X  μ 8.6  8.0
Z   0.12
σ 5.0
μ=8 μ=0
σ = 10 σ=1
X Z
8 8.6 0 0.12
P(X < 8.6) P(Z < 0.12)Statistics for Managers Using
Example
P(X < 8.6)

Standardized Normal Probability
Table (Portion) = P(Z < 0.12)
.5478
Z .00 .01 .02
0.0 .5000 .5040 .5080

μ=0
0.1 .5398 .5438 .5478 σ=1
0.2 .5793 .5832 .5871
0.3 .6179 .6217 .6255 Z

0 0.12

Chap 6-29
Example
 Find P(X > 8.6)…
P(X > 8.6) = P(Z > 0.12) = 1.0 - P(Z ≤ 0.12)

= 1.0 - .5478 = .4522
.5478
1.0 - .5478 = .4522
Z
0
0.12 Microsoft Excel, 5e © 2008
Chap 6-30
Assessing Normality
• It is important to evaluate how well the data set is

approximated by a normal distribution.
• Normally distributed data should approximate the theoretical
normal distribution:
– The normal distribution is bell shaped (symmetrical) where
the mean is equal to the median.
– The empirical rule applies to the normal distribution.
• Construct charts or graphs
– For small- or moderate-sized data sets, do box-and-whisker
plot look symmetric?
– For large data sets, does the histogram or polygon appear
bell-shaped?


Intro To Inferential Stat

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Introduction to Inferential

In this chapter, you will learn:

• Probability: the chance that an

Statistics for Managers Using

Find the probability of selecting a male taking statistics

Taking Not Taking Total

number of males taking stats 84

• Mutually exclusive events are events

Statistics for Managers Using

• Probability is the numerical measure 1 Certain

• The probability of any event must be

General Addition Rule:

P(A or B) = P(A) + P(B) - P(A and B)

If A and B are mutually exclusive, then

P(A or B) = P(A) + P(B)

Taking Stats Not Taking Stats Total

Male 84 145 229

Female 76 134 210

Total 160 279 439

P(Male or Stat) = P(M) + P(S) – P(M and S)

• A conditional probability is the probability of one

P(A and B) The conditional

Where P(A and B) = probability of A and B

AC 0.2 0.5 0.7

No 0.2 0.1 0.3

P(CD and AC) .2

• Two events are independent if and only if:

• If A and B are independent, then P(A | B)  P(A)

Random Variable Probability Distribution

Statistics for Managers Using

E(X) = 2(.2) + 3(.4) + 4(.24) + 5(.16) = 3.36

Statistics for Managers Using

Statistics for Managers Using

0.5 Stable Economy + $50 + $60

0.3 Expanding Economy + $100 + $350

Statistics for Managers Using

E(X) = μX = (-25)(.2) +(50)(.5) + (100)(.3) = 50

E(Y) = μY = (-200)(.2) +(60)(.5) + (350)(.3) = 95

Interpretation: Fund X is averaging a $50.00

Statistics for Managers Using

σ X  (-25  50) 2 (.2)  (50  50) 2 (.5)  (100  50) 2 (.3)

σ Y  (-200  95) 2 (.2)  (60  95) 2 (.5)  (350  95) 2 (.3)

Interpretation: Even though fund Y has a higher

Statistics for Managers Using

where: X = discrete variable X

σ XY  (-25  50)(-200  95)(.2)  (50  50)(60  95)(.5)

Interpretation: Since the covariance is large

Statistics for Managers Using

• ‘Bell Shaped’ f(X)

Statistics for Managers Using

By varying the parameters μ and σ, we obtain

 Translate from X to the standardized normal (the

 If X is distributed normally with mean of 500 and

 This says that X = 620 is 1.2 standard deviations

Statistics for Managers Using

500 620 X (μ = 500, σ = 100)

Note that the distribution is the same, only the

 The Standardized Normal table gives the

Statistics for Managers Using

The column gives the value of Z

Z 0.00 0.01 0.02 …

The row shows 0.0

• Let X represent the time it takes (in seconds) to