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Chapter 8
91
Chapter 8
I
Chapter Outline
8.1.
8.2.
8.3.
8.4.
8.5.
8.6.
II
Teaching Tips
1.
If you use Case 2 as an assignment, you may want to add a few hints concerning
the formulation of the constraints in this nonlinear model. Many students find this
case particularly hard without hints.
2.
You can complement the discussion on the portfolio problem by explaining how
to obtain the correlation matrix or the covariance matrix from Excel, based on
observations of the behavior of different stocks with respect to time.
3.
As with linear optimization models, you may want to stress the importance of
linear optimization models by presenting a practical application in industry (other
than the cases in this chapter). There are many management science journals with
such examples and the students always get a positive reinforcement in this subject
after hearing of a success story in linear optimization.
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
III
Chapter 8
92
8.1
(a) A nonlinear optimization model is similar to a linear optimization model in
the following:
Both have a feasible region determined by constraints
Both have an objective function that should be maximized or minimized
Both can be formulated as spreadsheet computer models
(b) The chief differences between a nonlinear optimization problem and a linear
optimization problem are:
The feasible region of a nonlinear optimization problem is not necessarily
determined by linear constraints, and so it is not necessarily a polyhedron
as in the linear optimization case
The objective function of a nonlinear optimization model is not
necessarily linear
Generally, nonlinear optimization problems are more difficult to solve on
the computer
The decision variables in a nonlinear optimization problem are not
necessarily continuous
In a nonlinear optimization problem there might be several local solutions
in addition to global solutions. In a linear optimization problem every
local solution is a global solution
(c) These differences make more difficult to solve a nonlinear optimization
problem. For instance, since an optimal solution of a nonlinear optimization
problem is not necessarily at corner points of the feasible region, it is more
difficult for the computer to search for this solution (it is easier to narrow the
search to corner points).
8.2
The plot of the objective function is shown in the following chart (the scale on the
x axis is 1:1000):
100
80
f(x)
60
40
20
0
-20 0
2000
4000
6000
8000
10000
The local minima are at x = 0.9455, x = 6.1385, and x = 10. The value of the
global minimum is x = 0.9455. The local maxima are at x = 0, x = 3.5795, and x =
9.5125. The value of the global maximum is x = 9.5125.
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
8.3
Chapter 8
93
$ millions
4
3.5
3
2.5
2
1.5
1
0.5
0
0
10
20
30
Tim e
f(x)
8.4
30
25
20
15
10
5
0
0
10
The local minima are at x = 0, x = 4.255, and x = 8.545. The value of the global
minimum is x = 0. The local maxima are at x = 1.215, x = 7.605, and x = 10. The
value of the global maximum is x = 10.
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
Chapter 8
94
8.5
(a) If PF = 270, then DF = 490 270 = 220. If PC = 230, then DC = 640 2(230) =
180. Therefore, the demands agree with the linear model from the previous
chapter.
(b) The optimal strategy is to produce 151.8 full-size microwave ovens and 165.5
compact-size microwave ovens, setting the unit prices at $338.18 and
$237.27, respectively. The optimal contribution to earnings is $51,300, which
is greater than the optimal contribution for the linear model ($40,500). I would
recommend Magnetron to set the prices at this level and to study the results to
determine how accurate is the model or if the model needs to be revised.
8.6
(a) Let P and M be the decision variables defined in this case. We obtain the
following nonlinear optimization model:
Maximize
(506 0.75P)P + (653.5 M)M.
Subject to:
Fabric:
8.75P + 60.5M <= 40,000,
Cutting:
0.1P + 0.2M <= 150,
Sewing:
0.4P + 0.3M <= 500,
Pillow price:
506 0.75P >= 0,
Mattress cover price:
653.5 M >= 0,
Non-negativity:
P, M >= 0
(b) The optimal solution is to produce 337.3 pillows and 326.7 mattress covers,
with an optimal objective value of $192,111.
8.7
Required Expected
Return (%)
(a) The minimum standard deviation of the investors portfolio is 12.71%. The
optimal asset allocation is 12.6% in IBM, 21.4% in ATT, 4% in GM, and 62%
in GE.
(b) The maximum expected return of the investors portfolio is 20.7%. The
optimal asset allocation is 11.7% in IBM, 15% in ATT, 2.8% in GM, and
70.5% in GE.
(c) The efficient frontier based on the model from part (a) is shown in the
following chart.
23
21
19
17
15
12.5
13
13.5
14
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
Chapter 8
95
8.8
Required Expected
Return (%)
(a) The minimum standard deviation of the investors portfolio is 14.3%. The
optimal asset allocation is 45% in XON, 25% in MSFT, 24% in ORCL, and
6% in SP500.
(b) The maximum expected return of the investors portfolio is 20.3%. The
optimal asset allocation is 28% in XON, 12.6% in MSFT, 10.4% in ORCL,
and 49% in SP500.
(c) The efficient frontier based on the model from part (a) is shown in the
following chart.
60
50
40
30
20
10
0
0
10
20
30
40
8.9
(a) The expected profit if the projects are successful is given by EP = 1750p1 +
700p2 + 1300p3 + 800p4 + 1450p5 + 1300p6. The expected start-up cost is
given by ES = 325(1-p1) + 200(1-p2) + 490(1-p3) + 125(1-p4) + 710(1-p5) +
240(1-p6). Consider the following nonlinear optimization model.
Maximize
EP ES 150(x1 + + x6).
Subject to:
Engineers available:
x1 + + x6 <= 25,
Non-negativity:
x1, , x6 >= 0.
The optimal solution is x1 = 2.8, x2 = 1.2, x3 = 3, x4 = 1.5, x5 = 3.4, and x6 =
2.6.
(b) If a random variable X takes the value of A with probability p and the value B
with probability (1-p), then Var(X) = (A-B)2p(1-p). Using this formula, and
assuming that the success or not of one project is statistically independent of
the success or not of any other project, we obtain that the variance of the
contribution to profit is given by the following formula. In computing this
formula, notice that A takes values 1750, 700, , 1300, and B takes values
-325, -200, , -240.
VP = (1750 + 325)2p1(1-p1) + (700 + 200)2p2(1-p2) +
+ (1300 + 240)2p6(1-p6).
Therefore, we solve the following nonlinear optimization problem.
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
Chapter 8
96
Minimize (VP).
Subject to:
Minimum contribution: EP ES 150(x1 + + x6) >= 1100,
Engineers available:
x1 + + x6 <= 25,
Non-negativity:
x1, , x6 >= 0.
The optimal solution is x1 = 5, x2 = 1.6, x3 = 4.2, x4 = 1.5, x5 = 6, and x6 = 3.
8.10
8.11
(a) The optimal location is at x = 9.17 and y = 8.5.
(b) The optimal location is at x = 10 and y = 8.81.
IV
ENDURANCE INVESTORS
Part I
(a) Not shown.
(b) The optimal portfolio weights for next quarter are as follows:
BA
0.10712
XON
0.00000
GM
0.07776
MCD
0.22651
PG
0.28861
SP
0.30000
Instructors Manual
Chapter 8
97
Constraints
Cell
Name
$D$43
$D$44
$D$47
$D$48
$D$49
$D$50
$D$51
$D$52
$D$55
$D$56
$D$57
$D$58
$D$59
$D$60
FSUM
Standard Deviation
Max Single (BA)
Max Single (XON)
Max Single (GM)
Max Single (MCD)
Max Single (PG)
Max Single (SP)
Non-Negative (BA)
Non-Negative (XON)
Non-Negative (GM)
Non-Negative (MCD)
Non-Negative (PG)
Non-Negative (SP)
Final
Value
1.0000
13.000
0.1071
0.0000
0.0778
0.2265
0.2886
0.3000
0.1071
0.0000
0.0778
0.2265
0.2886
0.3000
Lagrange
Multiplier
10.0553
0.222
0.0000
0.0000
0.0000
0.0000
0.0000
0.6716
0.0000
-1.2468
0.0000
0.0000
0.0000
0.0000
(d) The efficient frontier of the portfolio is shown in the following chart.
Effient Frontier
13.4
13.2
13.0
12.8
12.6
12.4
12.2
12.0
11.8
10.0
12.0
14.0
Standard Deviation
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
Chapter 8
98
Part II
(e) The new objective function is as described in the case, accounting for the
transaction costs. We add the following constraints to limit the change in
decision variables:
|X1 0.21| <= 0.15,
|X2 0.16| <= 0.15,
|X3 0.21| <= 0.15,
|X4 0.09| <= 0.15,
|X5 0.09| <= 0.15,
|X6 0.24| <= 0.15.
The changes in the spreadsheet are not shown.
(f) The optimal portfolio weights for next quarter are as follows:
BA
0.21000
XON
0.01000
GM
0.06000
MCD
0.22365
PG
SP
0.24000 0.25636
The optimal expected annual return of the portfolio, after accounting for
transaction costs, is 12.78%. The optimal fractions did not change too much
with respect to the optimal fractions of the previous model, except for the
fraction corresponding to BA.
(g) The shadow prices (Lagrange Multipliers) are shown in the table below. All of
the constraints are not binding, except for the constraint corresponding to the
standard deviation and the constraints for the absolute difference
corresponding to XON, GM, and PG. The shadow prices indicate that the
optimal expected return of the portfolio can be increased if we increase the
upper bound on the standard deviation or the upper bounds on the difference
with respect to the original fractions assigned to variables XON, GM, and PG.
When comparing to the shadow prices from the previous model, we find that
the constraints corresponding to the 30% upper bound on the variables are not
binding, and hence unnecessary in the revised model.
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
Chapter 8
99
Constraints
Cell
$D$47
$D$48
$D$51
$D$52
$D$53
$D$54
$D$55
$D$56
$D$59
$D$60
$D$61
$D$62
$D$63
$D$64
$D$66
$D$67
$D$68
$D$69
$D$70
$D$71
Final
Value
Name
FSUM
Standard Deviation
Max Single (BA)
Max Single (XON)
Max Single (GM)
Max Single (MCD)
Max Single (PG)
Max Single (SP)
Non-Negative (BA)
Non-Negative (XON)
Non-Negative (GM)
Non-Negative (MCD)
Non-Negative (PG)
Non-Negative (SP)
Absolute Difference (BA)
Absolute Difference (XON)
Absolute Difference (GM)
Absolute Difference (MCD)
Absolute Difference (PG)
Absolute Difference (SP)
1.0000
13.000
0.2100
0.0100
0.0600
0.2236
0.2400
0.2564
0.2100
0.0100
0.0600
0.2236
0.2400
0.2564
0.00000
0.15000
0.15000
0.13365
0.15000
0.01636
Lagrange
Multiplier
11.6682
0.086
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.00000
1.67183
0.03465
0.00000
0.08343
0.00000
(h) The efficient frontier of the portfolio is shown in the following chart.
Efficient Frontier
12.8
12.6
12.4
12.2
12.0
11.8
11.6
10.0
12.0
14.0
Standard Deviation
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
Chapter 8
100
(i) The new efficient frontier is stiffer and takes lower values on the Y-axis than
the previous efficient frontier.
(j) I would recommend using the set of portfolio weights corresponding to the
revised model. This is because this set takes into consideration the two
additional conditions given by Brian in this model and because the efficient
frontier is more stable than the efficient frontier for the original model when
changing the standard deviation upper bound.
850P2.
A1 + X1 <= 2,000,000,
P1 <= X1/200 + (X1),
P1 <= 4,000 + A1/400,
A2 + X2 <= 800P1 + 2,000,000 A1 X1,
P2 <= 1.3(X2/200 + (X2)),
P2 <= 0.75(4,000 + A1/400) + A2/300,
P1, P2, X1, X2, A1, A2 >= 0.
P1
6,344
6,344
6,344
6,344
P2
14,559
14,761
14,953
15,134
X1
$1,062,559
$1,062,559
$1,062,559
$1,062,559
X2
$2,134,375
$2,073,797
$2,016,404
$1,961,953
A1
$937,441
$937,441
$937,441
$937,441
A2
$2,940,506
$3,001,084
$3,058,478
$3,112,928
Objective
$12,375,481
$12,547,119
$12,709,733
$12,864,008
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.
Instructors Manual
Chapter 8
101
(c) As in the previous case, the optimal strategy previously discussed does not
significantly change as we change the percentage of reduction in demand. As
before, first year variables stay the same and the optimal objective value
increases as the demand reduction rate increases
Reduction %
0.60
0.65
0.70
0.75
0.80
0.85
0.90
P1
6,344
6,344
6,344
6,344
6,344
6,344
6,344
P2
14,309
14,524
14,738
14,953
15,167
15,381
15,596
X1
$1,062,559
$1,062,559
$1,062,559
$1,062,559
$1,062,559
$1,062,559
$1,062,559
X2
$1,923,989
$1,954,783
$1,985,588
$2,016,404
$2,047,230
$2,078,066
$2,108,913
A1
$937,441
$937,441
$937,441
$937,441
$937,441
$937,441
$937,441
A2
$3,150,892
$3,120,098
$3,089,293
$3,058,478
$3,027,651
$2,996,815
$2,965,969
Objective
$12,162,764
$12,345,118
$12,527,440
$12,709,733
$12,891,995
$13,074,229
$13,256,434
Manual to accompany Data, Models & Decisions: The Fundamentals of Management Science by Bertsimas and Freund. Copyright
2000, South-Western College Publishing. Prepared by Manuel Nunez, Chapman University.