Exam 5: Uncertainty and Consumer Behavior

Joan Summers has $100,000 to invest and is considering two alternatives. She can buy a risk free asset that will pay 10% or she can invest in a stock that has a 0.4 chance of paying 15%, a 0.3 chance of paying 18%, and a 0.3 chance of providing a 6% return. Joan plans to invest $70,000 in the stock and $30,000 in the risk free asset. a. Determine the expected percentage return on the stock and the standard deviation. b. Calculate the weighted average return on the portfolio, given the planned investment strategy outlined above. c. Determine the standard deviation for the portfolio. d. Write the equation that represents the budget line in the risk-return tradeoff. What is the slope of the budget line? Interpret this slope.

The concept of a risk premium applies to a person that is:

Table 5.4 -Refer to Table 5.4. If outcomes 1 and 2 are equally likely at Job A, then in absolute value:

Figure 5.2.2 -The individual pictured in Figure 5.2.2:

Use the following statements to answer this question: I. The real rate of return on an investment is the nominal return minus the rate of inflation. II) The real rate of return on an investment cannot be negative.

Which of the following statements is true?

Figure 5.2.3 -The individual pictured in Figure 5.2.3:

A new toll road was built in Southern California between San Juan Capistrano and Costa Mesa. On average, drivers save 10 minutes taking this road as opposed to the old road. The toll is $2; the fine for not paying the toll is $76. The probability of catching and fining someone who does not pay the toll is 90%. Individuals who take the road and pay the toll must therefore value 10 minutes at a minimum:

Assume that an investor invests in one risky and one risk free asset. Let σ_m be the standard deviation of the risky asset and b the proportion of the portfolio invested in the risky asset. The standard deviation of the portfolio is then equal to:

Scenario 5.3: Wanting to invest in the computer games industry, you select Whizbo, Yowzo and Zowiebo as the three best firms. Over the past 10 years, the three firms have had good years and bad years. The following table shows their performance: -Refer to Scenario 5.3. Based on the 10 years' past performance, what is the probability of a good year for Zowiebo?

Farmer Brown grows wheat on his farm in Kansas, and the weather during the growing season makes this a risky venture. Over the many years that he has been in business, he has learned that rainfall patterns can be categorized as highly productive (HP) with a probability of .2, moderately productive (MP) with a probability of .6, and not productive at all (NP) with a probability of .2. With these various rainfall patterns, he has also learned that the inflation adjusted yields are $25,000 with NP weather, $10,000 with MP weather, and $50,000 with HP weather. Calculate the expected yield from growing wheat on Farmer Brown's farm. What can be learned about Brown's attitude toward risk from this problem? Explain.

In figure below, what is true about the two jobs?

Nervous Norman holds 70% of his assets in cash, earning 0%, and 30% of his assets in an insured savings account, earning 2%. The expected return on his portfolio:

Virginia Tyson is a widow whose primary income is provided by earnings received from her husband's $200,000 estate. The table below shows the relationship between income and total utility for Virginia. Income Total Utility 5,000 12 10,000 22 15,000 30 20,000 36 25,000 40 30,000 42 a. Construct the marginal utility table for Virginia. What is her attitude toward risk? Explain your answer including a description of the marginal utility for individuals whose risk preferences are different from Virginia's. b. Virginia is currently earning 10% on her $200,000 in a riskless investment. Alternatively, she could invest in a project that has a 0.4 probability of yielding a $30,000 return on her investment and a 0.6 probability of paying $10,000. Should she alter her strategy and move her $200,000 to the more risky project?

Table 5.4 -Refer to Table 5.4. If at Job B the $20 outcome occurs with probability .2, and the $50 outcome occurs with probability .8, then the standard deviation of payoffs at Job B is nearest which value?

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. If the doctor is risk-averse, she would accept:

Other things equal, expected income can be used as a direct measure of well-being:

Suppose an investor equally allocates their wealth between a risk-free asset and a risky asset. If the MRS of the current allocation is less than the slope of the budget line, then the investor should:

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:

Table 5.4 -Refer to Table 5.4. If at Job B the $20 outcome occurs with probability .2, and the $50 outcome occurs with probability .8, then in absolute value: