The trade-off between product variety and uncertainty in the textile apparel industry - the aspect of hedging

Consider a fashion apparel item that takes one of the following states of the world: State 1 when it becomes popular and State 2 when non-popular. At the beginning of the variety planning season there is limited information about the item's popularity, and hence the two states occur with fairly equal probabilities. Further, consider a product category, such as water-sports jackets for men, where the variants within the group are distinguished by style and colour. The producer must build the group portfolio, such as to hedge against the uncertainty triggered by the two states of the world. We analyze the optimal portfolio structure through a Markowitz "like"stochastic optimisation model, tailored to capture the tradeoff between variety arising from hedging and uncertainty, and make simultaneous decisions on variety and inventory levels. Further, we investigate the impact of underlying assumptions about individual item demand distributions and interdependencies within a group.