Certainty equivalent

The certainty equivalent is that amount of guaranteed cash that a person would accept instead of taking the risk of receiving a larger amount at a later date. The difference between the certainty equivalent and the amount an organization must pay investors for the use of their money is this risk differential. For example, when a startup company must pay investors a 15% return when the yield on a U.S. Treasury issuance is 2%, this means that investors must be paid the 13% differential because they perceive the investment to be a risky one.

The certainty equivalent varies by investor, since each person has a different tolerance for risk. For example, a person approaching retirement is more likely to have a high certainty equivalent, since he is less willing to put his retirement funds at risk.