FINA2220A

Quantitative Methods for

Actuarial Analysis I

Chapter 2
Axioms of Probability
 Introduction
 In this chapter, we introduce the concept of the probability of
an event
 Then we show how these probabilities can be computed in
certain situations
 As a preliminary, we need the concept of the sample space
and the events of an experiment

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 2

 Sample Space and Events
 Consider an experiment whose outcome is not predictable
with certainty
 Suppose that the set of all possible outcomes is known

 This set of all possible outcomes of an experiment is known as

the sample space of the experiment
 Denoted by S

 Any subset E of the sample space is known as an event

 That is, an event is a set consisting of possible outcomes of

the experiment
 If the outcome of the experiment is contained in E, then we
say that E has occurred

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 3

 Example 2.1
 If the outcome of an experiment consists in the determination
of the sex of a newborn child, then
S = {g, b}
 Here, the outcome g means that the child is a girl and b is that
it is a boy
 If E = {g}, then E is the event that the child is a girl

 If F = {b}, then F is the event that the child is a boy

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 4

 Example 2.2
 If the experiment consists of flipping two coins, then the
sample space consists of the following four points:
S = {(H, H), (H, T), (T, H), (T, T)}
 The outcome will be

 (H, H) if both coins are head

 (H, T) if the first coin is heads and the second tails

 (T, H) if the first is tails and the second heads

 (T, T) if both coins are tails

 If E = {(H, H), (H, T)}, then E is the event that a head appears
on the first coin

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 5

 Example 2.3
 If the experiment consists of tossing two dice, then the sample
space consists of the 36 points
S = {(i, j): i, j = 1, 2, 3, 4, 5, 6}
 Here the outcome (i, j) is said to occur if i appears on the
leftmost die and j on the other die
 If E = {(1, 6), (2, 5), (3, 4), (4, 3), (5, 2), (6, 1)}, then E is the
event that the sum of the dice equals 7

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 6

 Example 2.4
 If the experiment consists of measuring (in hours) the lifetime
of a transistor, then the sample space consists of all
nonnegative real numbers
 That is

S = {x: 0  x < }
 If E = {x: 0  x  5}, then E is the event that the transistor
does not last longer than 5 hours

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 7

 Union of Events
 For any two events E and F of a sample space S, we define the
new event E  F to consist of all outcomes that are either
 In E, or

 In F, or

 In both E and F

 That is, the event E  F will occur if either E or F occurs

 The event E  F is called the union of the events E and F

 In Example 2.1 if event E = {g} and F = {b}, then

E  F = {g, b}
 That is, E  F would be the whole sample space S

 In Example 2.3, if E = {(H, H), (H, T)} and F = {(T, H)}, then

E  F = {(H, H), (H, T), (T, H)}

 Thus, E  F would occur if a head appeared on either coin
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 8
 Intersection of Events
 For any two events E and F, we may also define the new
event E  F (sometimes written as EF) to consist of all
outcomes that are both in E and in F
 E  F is called the intersection of E and F

 In example 2.2

 If E = {(H, H), (H, T), (T, H)} is the event that at least 1
head occurs
 If F = {(H, T), (T, H), (T, T)} is the event that at least 1 tail
occurs
 The intersection of E and F is

E  F = {(H, T), (T, H)}

 This is the event that exactly 1 head and 1 tail appear

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 9

 Venn Diagram
 A graphical representation for illustrating logical relationship
among events
 The sample space S is represented usually by rectangle

 The events E, F, G, … are represented usually by circle

within rectangle
 Intersection can be indicated by shading appropriate
regions of the diagram
 Examples:

EF EF
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 10
 Null Set and Mutually Exclusive
 In Example 2.3, suppose that E is the event that the sum of
the dice is 7 and F is the event that the sum is 6
 That is

E = {(1, 6), (2, 5), (3, 4), (4, 3), (5, 2), (6, 1)}
F = {(1, 5), (2, 4), (3, 3), (4, 2), (5, 1)}
 The intersection of E and F does not contain any outcomes
and hence could not occur
 We shall refer to the event that could not occur as the null
event and denoted it by 
 That is,  refers to the event consisting of no outcomes

 If E  F = , then E and F are said to be mutually exclusive

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 11

 Unions and Intersections
 If E1, E2, … are events, the union of these events is defined to
be that event which consists of all outcomes that are in En for
at least one value of n = 1, 2, … and is denoted by

 The intersection of the events En is defined to be the event

consisting of those outcomes that are in all of the events En,
n = 1, 2, … and is denoted by

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 12

 Complement
 For any event E, we define the new event Ec to consist of all
outcomes in the sample space S that are not in E
 This is referred to as the complement of E
c
 That is, E will occur if and only if E does not occur

 In Example 2.4, if E = {(1, 6), (2, 5), (3, 4), (4, 3), (5, 2), (6, 1)}
c
 E will occur when the sum of the dice does not equal 7

 Also note that because the experiment must result in some

outcome
 It follows that S = 
c

En EE e
E v Ee is
Ec
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 13
 Further Relationships between Two Events
 For any two events E and F
 If all the outcomes in E are also in F, then we say that E is
contained in F and write E  F (or equivalently, F  E)
 If E  F, the occurrence of E necessarily implies the
occurrence of F
 If E  F and F  E, we say that E and F are equal and write
E=F

EF

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 14

 Exercise 2.1
 Let O denote the set of odd natural numbers less than 10 and P
denote the set of prime numbers less than 10
 List the sets O and P in set notation

0 1，3 5，39 Pi 2，3 5，7

 Find the intersection of the odd natural numbers less than
10 and the prime numbers less than 10, O  P
Onp 3，5 7
 Find the union of the odd natural numbers less than 10 and
the prime integers less than 10, O  P

0up 1，2，3，5，7，93
 Find the “difference” of the odd natural numbers less than
10 and the prime integers less than 10, O – P (O takeaway P)
o_o 1 9
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 15
 Exercise 2.2
 A small college has 340 business majors and 440 liberal arts
majors
 It is possible to have a double major in business and liberal
arts
 There are 125 such double majors

 Use Venn diagram to find the number of students with single

major
single major
L.A
215 375
B
晶 管
凭 125 2315
占
⼆ 530

215

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 16

 Rule of Operations
 The operations of forming unions, intersections and
complements of events obey rules similar to the rules of
algebra
For F For E Eand and E
 A few of these rules:
E 都係For6 ǗIF
EE or

 These relations are verified by showing that any outcome that

is contained in the event on the left side of the equality sign is
also contained in the event on the right side
 One way of showing this is by means of Venn diagrams

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 17

 DeMorgan’s Laws
 The following useful relationships are known as DeMorgan’s
laws:
NotCA en B
應修 ⼆ Not A and Not B

NotCA and B
ㄔ多彩化 Not A or Not B
S antve integers
Ei 1，2 i

f E 1，2 n ÉEDEG 1 n 2
3
Ei Editing 了 ti Efdntn 2
3
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 18
 Axioms of Probability
 One way of defining the probability of an event is in terms of
its relative frequency
 We suppose that an experiment, whose sample space is S,
is repeatedly performed under exactly the same conditions
 For each event E of the sample space S, we define n(E) to中獎次數
be the number of times in the first n repetitions of the
experiment that the event E occurs
 Then P(E), the probability of the event E, is defined by

it 數定律

 That is, P(E) is defined as the (limiting) proportion of time

that E occurs
 It is thus the limiting frequency of E

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 19

 Axioms of Probability
 Although the preceding definition is certainty intuitively
pleasing, it possesses a serious drawback
 How do we know that n(E)/n will converge May diverge
to some
constant limiting value that will be the same for each
possible sequence of repetitions of the experiment?
 Another approach is the modern axiomatic approach to
probability theory
 We shall assume that for each event E in the sample space
S, there exists value P(E), referred to as the probability of
E
 We shall then assume that the probabilities satisfy a
certain set of axioms, which is in accordance with our
intuitive notion of probability

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 20

 Axioms of Probability
 Consider an experiment whose sample space is S
 For each event E of the sample space S, we assume that a
number P(E) is defined and satisfies the following 3 axioms
 Axiom 1:

0  P(E)  1
 Axiom 2:

P(S) = 1
 Axiom 3:

 For any sequence of mutually exclusive events E1, E2, …

(that is, events for which Ei Ej =  when i  j)
PCEA En E n
PCEHPCELHPCEP
 We refer to P(E) as the probability of the event E
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 21
 Axioms of Probability
 Consider a sequence of events E1, E2, … where E1 = S, Ei = 
for i > 1
Ein E ⼀中 i j 1 E AEj Sn Ejgjng
 The events are mutually exclusive

 And

 From Axiom 3, we have

 That is, the null event has probability 0 of occurring

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 22

 Axioms of Probability
 It follows that for any finite sequence of mutually exclusive
events E1, E2, …, En, we have

 This
follows from Axiom 3 by defining Ei to be the null
event for all values of i greater than n
 Axiom 3 is equivalent to the above equation when the sample
space is finite
 However, the added generality of Axiom 3 is necessary
when the sample space consists of an infinite number of
points

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 23

 Example 2.5
 If our experiment consists of tossing a coin and if we assume
that a head is as likely to appear as a tail, then we would have

 On the other hand, if the coin were biased and we felt that a
head were twice as likely to appear as a tail, then we would
have

Eid Ei⼆01 i23

Ei T

En EEP E UEES
1⼆PLS PCǕE ĚPCE ⼆PCE PCE ZPCE
7 RE PCEz.EE
If felt PCE
ZPCE FZPCEz.lt
PCEz
PCEu ⼆号 P ⼆号
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 24
 Example 2.6
 If a die is rolled and we suppose that all six sides are equally
likely to appear, then we would have

 From Axiom 3, it would thus follow that the probability of

rolling an even number would equal

Eidi i 1，2 6 Ei ⼆01 i27

Einf.to Eilg
PCS
fEi
l PCfEi TPCEi iPCEi 6PCE
PCEp i

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 25

 Axioms of Probability
 The assumption of the existence of a set function P, defined
on the events of a sample space S, and satisfying Axioms 1, 2,
and 3, constitutes the modern mathematical approach to
probability theory
 Hopefully, all will agree that the axioms are natural and in
accordance with our intuitive concept of probability as
related to chance and randomness
 Furthermore, using these axioms we shall be able to prove
that if an experiment is repeated over and over again, then,
with probability 1, the proportion of time during which any
specific event E occurs will equal P(E)

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 26

 Some Simple Propositions
 Proposition 2.1:

 Proof:
c En EE e
 Note that E and E are always mutually exclusive and
E  Ec = S
 By Axioms 2 and 3, we have

 Hencethe result
 In words, the probability that an event does not occur is 1
minus the probability that it does occur
 For example, if the probability of obtaining a head on a toss
of the coin is 3/8, the probability of obtaining a tail must be
5/8
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 27
 Some Simple Propositions
 Proposition 2.2:
 If E  F, then P(E)  P(F)
E F
 Proof: EE implies F

 Since E  F, it follows that we can express F as

F = E  (Ec  F)
 As E and E  F are mutually exclusive, we obtain from
c

Axiom 3 that
P(F) = P(E) + P(Ec  F)
 This proves the result, since P(E  F)  0
c

 This proposition tells us, for instance, that the probability of

rolling a 1 with a die is less than or equal to the probability of
rolling an odd value with the die

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 28

 Some Simple Propositions
 Proposition 2.3:
P(E  F) = P(E) + P(F) – P(E  F) E F
 Proof:

 Note that E  F can be written as the union of the two

disjoint events E and Ec  F
 Thus from Axiom 3,we obtain that

P(E  F) = P{E  (Ec  F)} = P(E) + P(Ec  F)

 Furthermore, since F = (E  F)  (E  F), we again
c

obtain from Axiom 3 that PCEUF

P(F) = P(E  F) + P(E  F)
c
t
 Or equivalently,
t C
P(E  F) = P(F) – P(E  F)
c

⼆ PCEIPCAPCEAF
 Thus, completing the proof
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 29
 Example 2.7
 Suppose that we toss two coins
 Suppose that each of the four points in the sample space is
equally likely and has probability ¼
S = {(H, H), (H, T), (T, H), (T, T)}
 Let E = {(H, H), (H, T)} is the event that the first coin falls
heads
 Let F = {(H, H), (T, H)} is the event that the second coin falls
heads
 By Proposition 2.3, the probability that either the first or
second coin falls heads is given by

 This probability could have been computed directly

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 30
 Exercise 2.3
 Suppose that we roll a pair of fair six-sided dice
 Find the probabilities that

 The sum is equal to seven or eleven

 Either the sum is seven or exactly one of the dice is

showing four

Stkij Gil
it 63size of S 36
E Sun equals 73 4631351，947，433

FE Sumequals113
any CG 173
45636，5乃
PCE ⼆点 活 PCFFÉ⼆年
EAF f REMF o
PCEUF
FINA2220A (2022-2023) REHPCFIPCEMF
Chapter 2 Axioms of Probability f 台㘧 Page 31
G exacy one die showing
4，1少
所以433453463443943今47
ná
EAGEEG4343乃
PCEMG⼀ ⾔ ⼀
i PCEUG ⼆ PCEHPCG REMG
⼆
年 合⼀合
⼀
合
 Exercise 2.4
 A marketing survey indicates that 60% of the population
owns an automobile, 30% own a house, and 20% owns both
an automobile and a house
PGMHSUCAGHB
 Calculate the probability that a person chosen at random
owns an automobile or a house, but not both
Let A automobile owner H House onener
PCA ⼆0，6 PCH 0.3 PCAAH 0.2
As A ECANDUCMHS and CAMMCAMG 0
PCAAHS PCAI PC.AM 0.4 03 0.2

As CAMIUCAGH
HE

i PCAGH PCN PCAnmi.co

t
依 Tied posgg_5
FINA2220A (2022-2023) Chapter 2 Axioms of Probability
⼆ 0.4 0.1 0.5
Page 32
 Exercise 2.5
The probability that a visit to a primary care physician’s
(PCP) office results in neither lab work nor referral to a
specialist is 35%
 Of those coming to a PCP’s office, 30% are referred to
specialists and 40% require lab work
 Determine the probability that a visit to a PCP’s office results
in both lab work and referral to a specialist
Let Lalidauire Labwork spec specialists to B
Giant Paabhspec9 0.35 lab 0，4 PC
Speck0.3
ByDeMorgan'sLaw 4的9gecS
CLablspec i.PL
Lab USpeD l PKLabUSpe.ci
0.65
PCLabnspes PCLabtPCSpecs.PLLab Up a
0.05 4
FINA2220A (2022-2023) Chapter 2 Axioms of Probability
ǎgōj Page 33

o 05
 Some Simple Propositions
 The probability that any one of the three events E or F or G
occurs can be calculated as follows:

N
ofTitties
nsnsaendgtnisunefrhl Addback
individual
prob ofanypairs ofevents
theprob
events of all three
occurs at the sametime events occurs

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 34

 Exercise 2.6
 A survey of a group’s viewing habits over the last year
revealed the following information:
Be 睇Badminton
 28% watched badminton
v 睇volleyball
 29% watched volleyball
F 時Football3
 19% watched soccer

 14% watched badminton and volleyball

 12% watched volleyball and soccer

 10% watched badminton and soccer

 8% watched all three sports

 Calculate the percentage of the group that watched none of

the three sports during the last year

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 35

 PC Bro.A
pan 0.29
p F 0.19
PCBOv7i0，14
pcvn F 0.12
PCB nf 0 io

PC Bnvn F o 08
PCBUUUFF0，28 0，29 0.19 0.14 0，12 o.l
0，48 o. e
PCBCnvcnFS.pkBuvu Fi
1 PCBUUUF
⼆ 1 0，48 0，52

0.08
B v ⼆0，14 0.08
⼆ o 06

son 0.08
⼆ o 04
0.10 0.08
oez
F i0.28 a06
0.08 0.02
⼆ 0.12
The required probably 0.29 0.06
0.08 0.04
1 三 ⼆0.11
⼆ 0.52 0.19 0.02
o 08 0 04
0.05
 Some Simple Propositions
Proposition 2.4:

嗰圈

 The summation

is taken over all of the possible subsets of size r of the

set {1, 2, …, n}
 This proposition can be proved by induction

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 36

 Sample Spaces with Equally Likely Outcomes
 For many experiments, it is natural to assume that all
outcomes in the sample space are equally likely to occur
 That is, consider an experiment whose sample space S is a
finite set, say S = {1, 2, …, N}
 Then it is often natural to assume that

P({1}) = P({2}) = … = P({N})

 This implies from Axioms 2 and 3 that

 From this it follows from Axiom 3 that for any event E

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 37

 Example 2.8
 If two dice are rolled, what is the probability that the sum of
the upturned faces will equal 7?
 Assume that all of the 36 possible outcomes are equal likely

 Since there are 6 possible outcomes that result in the sum of

the dice being equal to 7
(1, 6), (2, 5), (3, 4), (4, 3), (5, 2), (6, 1)
 The desired probability is 6/36 = 1/6

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 38

 Example 2.9
 3 balls are “randomly drawn” from a bowl containing 6 white
and 5 black balls
 What is the probability that one of the drawn balls is white
and the other two black?
 Solution 1:

 Suppose the order in which the balls are selected as being

relevant
 The sample space consists of 11  10  9 = 990 outcomes

 There are 6  5  4 = 120 outcomes in which the first ball

selected is white and the other two black (WBB)
 There are 5  6  4 = 120 outcomes with order (BWB)

 There are 5  4  6 = 120 outcomes with order (BBW)

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 39

 Example 2.9
 Solution 1:
 Hence, assuming that “randomly drawn” means that each
outcome in the sample space is equally likely to occur, the
desired probability is

 Solution 2:
 Suppose that the outcome of the experiment is the
unordered set of drawn balls
 Then the number of possible outcomes in the sample space
is

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 40

 Example 2.9
 Solution 2:
 Now, each set of 3 balls corresponding to 3! outcomes
when the order of selection is noted
 As a result, if all outcomes are assumed equally likely
when the order of selection is noted
 It follows that they remain equally likely when the outcome
is taken to be the unordered set of selected balls
 Hence the desired probability is

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 41

 Exercise 2.7
 A manufacturer has received a shipment of 50 parts
 Unfortunately, 20 of the parts are defective

 The manufacturer is going to test a sample of 5 parts chosen

at random from the shipment
 What is the probability that the sample contains

 3 defective parts and 2 good parts?

 all defective parts?

 no defective parts?

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 42

 Exercise 2.8
 A poker hand consists of 5 cards
 A hand is called a straight, if the cards have distinct
consecutive values and are not all of the same suit
 What is the probability that one is dealt a straight?

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 43

 Probability as a Measure of Belief
 Thus far we have interpreted the probability of an event of a
given experiment as being a measure of how frequently the
event will occur when the experiment is continually repeated
 However, there are also other uses of the term probability

 Another simple and natural interpretation is that the

probabilities referred to are measures of the individual’s
belief in the statements that he or she is making
 This interpretation of probability is often referred to as the
personal or subjective view of probability
 It seems logical to suppose that a “measure of belief” should
satisfy all the axioms of probability

FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 45

 Example 2.10
 Suppose that in a 7-horse race you feel that
 Each of the first 2 horses has a 20% chance of winning

 Horses 3 and 4 each has a 15% chance of winning

 The remaining 3 horses each has a 10% chance of winning

 Would it be better for you to wager at even money that

 The winner will be one of the first three horses, or

 The winner will be one of the horses 1, 5, 6, 7

 Based on your personal probabilities concerning the outcome

of the race
 The probability of winning the first bet is .2 + .2 + .15 = .55

 The probability of winning the second bet is .2 + .1 + .1 + .1

= .5
 The first wager is more attractive
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 46
 Example 2.11
 Note that in supposing that person’s subjective probabilities
are always consistent with the axioms of probability, we are
dealing with an idealized rather that an actual person
 If we were to ask someone what he or she thought the chances
were of
 rain today

 rain tomorrow

 rain both today and tomorrow

 rain either today and tomorrow

 It is quite possible that after some deliberation that this

person might give 30%, 40%, 20% and 60% as answers
 Unfortunately, such answers are not consistent with the
axioms of probability
FINA2220A (2022-2023) Chapter 2 Axioms of Probability Page 47