Exam 5: Uncertainty and Consumer Behavior

Mary is a fervent Iowa State University Cyclone Basketball fan. She derives utility as a function of the ISU team winning the Big XII championship and from income according to the function U(I_c, w) = 35 I_c + w, where = { and w is her level of wealth. Mary believes the probability of a Cyclone championship is ¹/₄. Mary has been offered the following "insurance policy." The insurance policy costs $16. If the Cyclones win the championship, she pays only the policy cost of $16. If the Cyclones lose, she will receive $21.50 (so that after taking into account the policy cost of $16, her net return is $5.50). Will Mary's expected utility increase if she purchases the policy?

Consider the following information about job opportunities for new college graduates in Megalopolis:Table 5.1 -Refer to Table 5.1. Expected income for the first year is

The standard deviation of a two-asset portfolio (with a risky and a non-risky asset) is equal to

Scenario 5.4: Suppose an individual is considering an investment in which there are exactly three possible outcomes, whose probabilities and pay-offs are given below: The expected value of the investment is $25. Although all the information is correct, information is missing. -Refer to Scenario 5.4. What is the deviation of outcome A?

An individual whose attitude toward risk is illustrated in Figure 5.1 is

Actual insurance premiums charged by insurance companies may exceed the actuarially fair rates because:

The expected value of a project is always the

The law of large numbers:

Table 5.4 -Refer to Table 5.4. If outcomes 1 and 2 are equally likely at Job A, then the standard deviation of payoffs at Job A is

Scenario 5.6: Consider the information in the table below, describing choices for a new doctor. The outcomes represent different macroeconomic environments, which the individual cannot predict. -Refer to Scenario 5.6. The expected utility of income from research is

To demonstrate the anchoring phenomenon, Kahneman and Tversky would ask research subjects very difficult questions that should be answered with a number between zero and 100. Before asking for the respondent's answer, they would also spin a large wheel that generated random number outcomes from zero to 100. If the respondents were subject to the anchoring effect, then we should expect that:

During the most recent recession, many people temporarily lost substantial value in their retirement investment portfolios because most of the assets (including stocks, bonds, and real estate) all declined in value at the same time. In hindsight, what was the problem with these portfolios?

Donna is considering the option of becoming a co-owner in a business. Her investment choices are to hold a risk free asset that has a return of R_j and co-ownership of the business, which has a rate of return of R_b and a level of risk of σ_b. Donna's marginal rate of substitution of return for risk ( / ) is = where RP is Donna's portfolio rate of return and σP is her optimal portfolio risk. Donna's budget constraint is given by RP = Rj + σP. Solve for Donna's optimal portfolio rate of return and risk as a function of R_j, R_{b and} σ_b. Suppose the table below lists the relevant rates of returns and risks. Use this table to determine Donna's optimal rate or return and risk. Investment Rate of Return Risk Risk Free 0.06 0 Business 0.25 0.39

What is a reference point?

Last year, on advice from your sister, you bought stock in Burpsy Soda at $100/share. During the year, you collected a $2 dividend and then sold the stock for $120/share. You experienced a

The slope of the budget line that expresses the tradeoff between risk and return for an asset can be represented by

An investment opportunity is a sure thing; it will pay off $100 regardless of which of the three possible outcomes comes to pass. The variance of this investment opportunity:

As president and CEO of MegaWorld industries, you must decide on some very risky alternative investments: The highest expected return belongs to investment

Consider the following information about job opportunities for new college graduates in Megalopolis:Table 5.1 -Refer to Table 5.1. A risk-neutral individual making a decision solely on the basis of the above information would choose to major in

Because of the relationship between an asset's real rate of return and its risk, one would expect to find all of the following, except one. Which one?