The stochastic model

We have discussed the deterministic model, where a single outcome with quantitative input values has no randomness. The word stochastic is derived from the Greek word called Stochastikos. It means skillful at guessing or chance. The antonym of this is "certain", "deterministic", or "sure". A stochastic model predicts a set of possible outcomes weighted by their likelihoods or probabilities. For instance, a coin when flipped in the air will "surely" land on earth eventually, but whether it lands heads or tails is "random".

Monte Carlo simulation

Monte Carlo simulation, which is also viewed as a probability simulation, is a technique used to understand the impact of risk and uncertainty in any forecasting model. The Monte Carlo method was invented in 1940 by Stanislaw Ulam when he was working on several nuclear weapon projects at the Los Alamos National Laboratory. Today, with computers, you can generate random numbers and run simulations pretty fast, but he amazingly found...