Achieving cost-efficient diversification of water infrastructure system against uncertainty using modern portfolio theory

Recent water-related disasters have shown that not all disrupted events are prevented with water infrastructure systems and current water systems are becoming more vulnerable to disruptions due to the high uncertainty of disrupted events. Many scholars in various fields suggest diversification in the system as a way to respond to the uncertainty. In the real world, however, it is difficult to maximize its use, especially with water infrastructure, due to high costs and incomplete assessment methods. Thus this study attempts to develop a method to quantify cost-effectiveness of diversification using a drought case study in Korea. Modern Portfolio Theory is used to find optimal combinations of water resources infrastructures in terms of diversification. First, expected return and risk of individual water resources for water supply are estimated. Then, expected return and risk of individual portfolios of the water resources are evaluated by varying their shares of 0 to 100%. Finally, non-inferior portfolios are identified and an optimal portfolio for an acceptable return or risk is selected as a solution. Consequently, a portfolio is selected as a desirable one to practically enhance diversification in water infrastructure systems against real world uncertainty in consideration of cost and budget.