Deck 20: Uncertainty, risk, and Private Information

Question 1

Amanda recently graduated from university,and she has a job offer with uncertain income: there is a 70% probability that she will make $10 000 and a 30% probability that she will make $70 000.The expected value of Amanda's income is:

A) $40 000.
B) $21 000.
C) $28 000.
D) $10 000.

Answer 1

$28 000.

Question 2

The Conduire family owns three cars and is considering buying insurance to cover the cost of repairs.They face two possible states: state 1,in which their cars need no repairs and their income available for purchasing other goods and services is equal to $50 000;and state 2,in which their cars need $10 000 worth of repairs and their income available for purchasing other goods and services is reduced to $40 000.The probability of occurrence is 0.5 for each state.They can buy insurance that will cover the full cost of repairs for $5 000.If the Conduires are risk-averse and maximize their expected utility,they will:

A) buy the insurance.
B) be indifferent between buying and not buying the insurance since their expected income for purchasing other goods and services is $45 000 regardless of what they do.
C) not buy the insurance since buying it does not increase their expected income for purchasing other goods and services.
D) put $10 000 in savings to pay for any required repairs and not buy insurance.

Answer 2

buy the insurance.

Question 3

The expected value of a random variable is:

A) the most frequently occurring value of that variable.
B) the most recent value of that variable.
C) the weighted average of all possible values,where the weights on each possible value correspond to the probability of that value occurring.
D) impossible to determine.

Answer 3

the weighted average of all possible values,where the weights on each possible value correspond to the probability of that value occurring.

Question 4

If a stock analyst believes there is a 25% probability that the stock price of Dymonatis will be $30 at the end of the year,a 50% probability that it will be $40,and a 25% probability that it will be $50,then the expected value of the stock at the end of the year is:

A) $30.
B) $35.
C) $40.
D) $50.

Question 5

Domingo has a total wealth of $500 000 composed of a house worth $100 000 and $400 000 in cash.He keeps the cash in a safe deposit box,so that it is completely safe.However,there is a 10% chance that his house will burn down by the end of the year and be worth nothing,and a 90% chance that nothing will happen to it.Without insurance,the expected value of his end-of-year wealth is:

A) $410 000.
B) $450 000.
C) $490 000.
D) $485 000.

Question 6

Louis has invested $1 000 in the stock market.At the end of 1 year,there is a 30% chance that his stock will be worth only $800 and a 70% chance that it will be worth $1 200.The expected value of his stock at the end of 1 year is:

A) $1 000.
B) $1 080.
C) $1 200.
D) $1 160.

Question 7

A random variable:

A) has an uncertain future value.
B) has a constant value.
C) doesn't exist in economics.
D) is useless in economic decision-making.

Question 8

You are about to have a meeting with your manager about a raise in your salary.You are going to request an increase of $5 000,but you believe the probability of success to be only 25%.You believe there is a 25% probability your boss will counter with a $3 000 raise and a 25% probability that your boss will offer a $1 000 raise.Finally,there is a 25% probability that you will receive no increase in your salary.What is the expected value of the outcome of your meeting?

A) $2 250
B) $9 000
C) $6 750
D) $3 000

Question 9

Amanda recently graduated from university,and she has a job offer with uncertain income.There is a 70% probability that she will make $10 000 and a 30% probability that she will make $70 000.Suppose Amanda is offered another job with a certain income.All else equal,if she has a constant marginal utility of income,she will accept the second job offer only if it pays more than:

A) $40 000.
B) $28 000.
C) $10 000.
D) $21 000.

Question 10

If a stock analyst believes there is a 10% probability that the stock price of Dymonatis will be $30 at the end of the year,a 50% probability that it will be $40,and a 40% probability that it will be $50,then the expected value of the stock at the end of the year is:

A) $32.
B) $38.
C) $40.
D) $43.

Question 11

Suppose that an individual is risk-averse.If this individual's utility function is depicted in a graph,with income measured on the horizontal axis and utils on the vertical axis,the graph will be an upward sloping:

A) straight line through the origin.
B) straight line with a positive vertical intercept.
C) curve with a steadily increasing slope (i.e. ,a curve that is convex from below).
D) curve with a steadily decreasing slope (i.e. ,a curve that is concave from below).

Question 12

A friend of yours owes you $10,and he wants to flip a coin for double or nothing.If the coin lands heads,he will pay you $20.If the coin lands tails up,he will pay you nothing.As the coin is in midair,what is your expected value of this wager?

A) $0
B) $10
C) $20
D) $30

Question 13

A fair insurance policy is one whose premium is _____ the expected value of the claims.

A) equal to
B) greater than
C) less than
D) unrelated to

Question 14

If there is a 50% probability that Joseph will earn $10 per hour at his job today and a 50% probability that he will earn $20 per hour today,his expected pay per hour is:

A) $10.00.
B) $12.50.
C) $15.00.
D) $20.00.

Question 15

The total utility of income curve for a risk-averse individual will be _____ with income.

A) decreasing
B) increasing at an increasing rate
C) increasing at a constant rate
D) increasing at a decreasing rate

Question 16

Darnell pays $7 300 per year to an insurance company in return for its promise to pay part of his family's medical bills.The $7 300 is Darnell's:

A) risk.
B) marginal utility.
C) expected utility.
D) premium.

Question 17

Micah is considering turning pro before his graduating year basketball season.If he turns pro,Micah expects a pro contract worth $2 million in present value.If he does not turn pro,there is a 50% chance an injury will prevent him from playing professionally and a 50% chance he will get a pro contract worth $4 million in present value.What is the expected present value of Micah's pro contract if he stays in university for his graduating year?

A) $3.5 million
B) $5 million
C) $2 million
D) $0

Question 18

If there is a 25% probability that Joseph will earn $10 per hour at his job today and a 75% probability that he will earn $20 per hour today,his expected pay per hour is:

A) $10.00.
B) $15.00.
C) $17.50.
D) $20.00.

Question 19

Domingo has total wealth of $500 000 composed of a house worth $100 000 and $400 000 in cash.He keeps the cash in a safe deposit box,so that it is completely safe.However,there is a 10% chance that his house will burn down and be worth nothing and a 90% chance that nothing will happen to it.Domingo buys insurance guaranteeing that his house will be restored to its original condition should anything happen to it.The insurance premium is $2 000.Consequently (assuming other things remain unchanged),his future:

A) expected wealth is $480 000.
B) wealth is $500 000 for sure.
C) expected wealth is $490 000.
D) wealth is $498 000 for sure.

Question 20

Uncertainty about monetary outcomes is known as:

A) financial risk.
B) monetary risk.
C) profitability risk.
D) risk aversion.

Question 21

Mary and Bob are trying to decide how much auto insurance to buy.They share the same expectations of an accident,with the same dollar loss.They also have the same income levels.However,Mary would rather buy very little insurance,while Bob would rather buy much more insurance.This suggests that:

A) Bob is more risk-averse than is Mary.
B) Mary is more risk-averse than is Bob.
C) Bob is risk-averse and Mary is risk-loving.
D) Mary is risk-averse and Bob is risk-loving.

Question 22

The premium for a(n)_____ insurance policy is equal to the expected value of the claim.

A) fair
B) premium
C) unfair
D) diversification

Question 23

For MOST families,the marginal utility of income is:

A) increasing.
B) constant.
C) diminishing.
D) unknown;the answer depends on the value of income.

Question 24

For most families,total utility does NOT:

A) rise as income rises.
B) rise less quickly as income rises.
C) show increasing marginal utility.
D) show diminishing marginal utility.

Question 25

A person who is willing to pay an insurance premium to lessen financial risk is said to be:

A) a moral hazard.
B) risk-loving.
C) risk-averse.
D) risk-neutral.

Question 26

If an individual is risk-averse,then his or her total utility function must display _____ marginal utility.

A) constant
B) diminishing
C) increasing
D) either constant or diminishing,but not increasing,

Question 27

Bikul has just started a great job and plans to buy a fancy car worth $100 000.Bikul is risk-averse in money matters,but he likes to drive fast,so the probability that he wrecks the car (a total loss of $100 000)is 0.10.The probability that he has no accidents is 0.90.If an insurance company offers Bikul a fair insurance policy,the premium will be:

A) $10 000.
B) $90 000.
C) $80 000.
D) It is impossible to calculate a premium unless we know Bikul's utility function.

Question 28

The total amount of funds that potentially could be paid out by an insurance company is the:

A) sum of all premiums collected.
B) sum of all deductibles received from claims.
C) capital at risk.
D) company's liabilities.

Question 29

Use the following to answer questions :
Scenario: Choosing Insurance
The Ramirez family owns three cars and is considering buying insurance to cover the cost of repairs.They face two possible states: in state 1,their cars need no repairs and their income available for purchasing other goods and services is $50 000;in state 2,their cars need $10 000 worth of repairs and their income available for purchasing other goods and services is reduced to $40 000.The probability of repairs is 10%,while the probability of no repairs is 90%.
(Scenario: Choosing Insurance)Use Scenario: Choosing Insurance.For $2 000,the Ramirez family can buy insurance that will cover the full cost of repairs.If family members are risk-averse and want to maximize their expected utility,they will:

A) buy the insurance.
B) be indifferent between buying and not buying the insurance since their expected income for purchasing other goods and services is $48 000 regardless of what they do.
C) buy the insurance as long as the utility of having a certain income of $48 000 to buy goods and services other than car repairs is higher than the utility associated with their expected income without insurance.
D) self-insure.

Question 30

The marginal utility of income for a risk-averse individual will be:

A) constant.
B) diminishing.
C) increasing.
D) unknown;the answer depends on the value of income.

Question 31

In an efficient allocation of risk:

A) all risk is eliminated.
B) those who are most willing to bear risk,bear it.
C) all risk is diversified.
D) all insurance premiums are equal to the expected value of the claims.

Question 32

Use the following to answer questions :
Scenario: Choosing Insurance
The Ramirez family owns three cars and is considering buying insurance to cover the cost of repairs.They face two possible states: in state 1,their cars need no repairs and their income available for purchasing other goods and services is $50 000;in state 2,their cars need $10 000 worth of repairs and their income available for purchasing other goods and services is reduced to $40 000.The probability of repairs is 10%,while the probability of no repairs is 90%.
(Scenario: Choosing Insurance)Use Scenario: Choosing Insurance.For $900,the Ramirez family can buy insurance that will cover the full cost of repairs.If family members are risk-averse and maximize their expected utility,they will:

A) buy the insurance.
B) be indifferent between buying and not buying the insurance since their expected income for purchasing other goods and services is $49 100,regardless of what they do.
C) not buy the insurance,since buying it does not increase their expected income for purchasing other goods and services.
D) self-insure.

Question 33

Which statement regarding a warranty is NOT true?

A) It is a form of consumer insurance.
B) Consumers may buy one,even if the cost of the warranty is greater than the expected future claim paid by the manufacturer.
C) It decreases the consumer's expected utility from an item.
D) It signals to consumers that the goods are of high quality.

Question 34

A fair insurance policy is one whose premium:

A) is zero.
B) allows the insurance company to profit.
C) equals the expected value of the claims.
D) is higher as the probability of a claim decreases.

Question 35

Use the following to answer questions :
Scenario: Choosing Insurance
The Ramirez family owns three cars and is considering buying insurance to cover the cost of repairs.They face two possible states: in state 1,their cars need no repairs and their income available for purchasing other goods and services is $50 000;in state 2,their cars need $10 000 worth of repairs and their income available for purchasing other goods and services is reduced to $40 000.The probability of repairs is 10%,while the probability of no repairs is 90%.
(Scenario: Choosing Insurance)Use Scenario: Choosing Insurance.The premium on a fair insurance policy for the Ramirez family will be:

A) $0.
B) $900.
C) $1 000.
D) $2 000.

Question 36

Consider the marginal utility of income curves of Hank,Babe,Barry,and Willie.Hank's is constant;Babe's is slightly diminishing;Barry's is strongly diminishing;and Willie's is upward sloping.All else equal,which of these individuals will be most risk-averse?

A) Hank
B) Babe
C) Barry
D) Willie

Question 37

When faced with an insurance policy whose premium exceeds the expected value of the claim:

A) no one will buy it.
B) only risk-tolerant individuals will buy it.
C) risk-averse individuals will buy it as long as the utility associated with the insurance is greater than the expected utility without the insurance.
D) risk-averse individuals will buy it as long as the utility associated with the insurance is less than the expected utility without the insurance.

Question 38

Use the following to answer questions :
Scenario: Choosing Insurance
The Ramirez family owns three cars and is considering buying insurance to cover the cost of repairs.They face two possible states: in state 1,their cars need no repairs and their income available for purchasing other goods and services is $50 000;in state 2,their cars need $10 000 worth of repairs and their income available for purchasing other goods and services is reduced to $40 000.The probability of repairs is 10%,while the probability of no repairs is 90%.
(Scenario: Choosing Insurance)Use Scenario: Choosing Insurance.For $1 000,the Ramirez family can buy insurance that will cover the full cost of repairs.If family members are risk-averse and want to maximize their expected utility,they will:

A) buy the insurance.
B) be indifferent between buying and not buying the insurance since their expected income for purchasing other goods and services is $49 000,regardless of what they do.
C) buy the insurance as long as the utility of having a certain income of $48 000 to buy goods and services other than car repairs is higher than the utility associated with their expected income without insurance.
D) self-insure.

Question 39

Individuals differ in risk aversion because of:

A) adverse selection.
B) moral hazard.
C) differences in income or wealth.
D) differences in their insurance.

Question 40

Risk-averse individuals are willing to pay a premium that is _____ their expected claims.

A) less than
B) greater than or equal to
C) equal to
D) dependent on something other than

Question 41

Suppose that the probability of a major theft at a hotel is 1%,while the probability of an earthquake hitting the hotel is 2.3%.The probability that both would occur on the same day is therefore:

A) 0.00023%.
B) 0.0023%.
C) 0.023%.
D) 2.3%.

Question 42

Barcelona and Montreal are similar,except Barcelona has a good public transportation system and Montreal does not.Auto insurance will probably be more expensive in _____ since the _____ for insurance is _____.

A) Barcelona;demand;higher than it is in Montreal
B) Barcelona;supply;lower than it is in Montreal
C) Montreal;demand;higher than it is in Barcelona
D) Montreal;supply;lower than it is in Barcelona

Question 43

On any particular day,the probability that it will rain is 25% and that you will be sick is 10%.The probability that both happen on the same day is _____%.

A) 0.25
B) 1
C) 2.5
D) 17.5

Question 44

Which statement is TRUE if the insurance market is efficient?

A) The deductibles eliminate moral hazard.
B) Society as a whole engages in less risky behaviour.
C) It transfers risk from those who most want to get rid of it to those least bothered by the risk.
D) Premiums are always kept to the level of a fair insurance policy.

Question 45

As the premium for an insurance policy falls,there is an increase in the _____ insurance.

A) demand for
B) supply of
C) quantity demanded of
D) quantity supplied of

Question 46

Use the following to answer questions :
Scenario: Buying Shares
Geordie is considering buying shares in two companies,Apple and Microsoft.If he invests $1 000 in Apple,there is a 40% probability that his investment will be worth only $800 and a 60% probability that it will be worth $1 200 at the end of a year.If he invests $500 in Apple,there is a 40% probability that his investment will be worth $400 and a 60% probability that it will be worth $600 at the end of a year.The corresponding numbers for investment in Microsoft are identical.
(Scenario: Buying Shares)Use Scenario: Buying Shares.The probability that Geordie will make a gain is _____% if he invests $1 000 in either Apple or Microsoft.The probability that he will make a gain is _____% if he invests $500 apiece in Apple and in Microsoft.

A) 60;60
B) 60;84
C) 76;24
D) 60;36

Question 47

The strategy of reducing or eliminating risks by taking a small share in many independent events or by taking advantage of the predictability associated with large numbers of independent events is known as:

A) floating.
B) specializing.
C) pooling.
D) screening.

Question 48

Why might the supply curve of insurance policies shift to the right?

A) The wealth of the sellers of insurance increases.
B) Premiums increase.
C) Risk aversion increases.
D) Diversification increases.

Question 49

An efficient market for risk,such as an insurance market,is MOST likely to exist:

A) when there is a level playing field so that all participants have approximately the same wealth and the same degree of risk aversion.
B) when the sellers of insurance are risk-averse but the purchasers are not.
C) when there are significant differences between individuals' wealth levels and attitudes toward risk.
D) in the presence of private,or asymmetric,information.

Question 50

Use the following to answer questions :
Scenario: Buying Shares
Geordie is considering buying shares in two companies,Apple and Microsoft.If he invests $1 000 in Apple,there is a 40% probability that his investment will be worth only $800 and a 60% probability that it will be worth $1 200 at the end of a year.If he invests $500 in Apple,there is a 40% probability that his investment will be worth $400 and a 60% probability that it will be worth $600 at the end of a year.The corresponding numbers for investment in Microsoft are identical.
(Scenario: Buying Shares)Use Scenario: Buying Shares.The probability that Geordie will sustain a loss is _____% if he invests $1 000 in either Apple or Microsoft and _____% if he invests $500 apiece in Apple and in Microsoft.

A) 40;40
B) 40;16
C) 80;20
D) 40;80

Question 51

Use the following to answer questions :
Scenario: Diversification
Morris is considering investing $10 000 in a sunglass company or a rain poncho company.If it is a rainy year and he invests only in the sunglass company,he will lose $5 000.However,if it is a rainy year and he invests only in the rain poncho company,he will earn $10 000.If it is a sunny year and he invests only in the sunglass company,he will earn $10 000;if he invests only in the rain poncho company,he will lose $5 000 in a sunny year.There is a 50% chance of a sunny year and a 50% chance of a rainy year.
(Scenario: Diversification)Use Scenario: Diversification.If Morris invests all of his money in the sunglass company,what is his expected gain or loss?

A) a loss of $2 500
B) to break even
C) a gain of $2 500
D) a gain of $10 000

Question 52

Assume that flood insurance premiums are determined in the competitive market.Suppose that devastating floods along the Fraser River have increased the degree of risk aversion among the insurance investors in this market.The _____ insurance shifts _____,leading to a(n)_____ in equilibrium premiums and a(n)_____ in the quantity of insurance bought and sold.

A) supply of;rightward;decrease;increase
B) demand for;leftward;decrease;decrease
C) supply of;leftward;increase;decrease
D) demand for;rightward;increase;increase

Question 53

Which statement describes a principle of the insurance industry?

A) Trade in risk can produce mutual gains.
B) Diversification can increase risk.
C) Deductibles add to the problem of moral hazard.
D) Adverse selection should be used to reduce insurance costs.

Question 54

Suppose that the wealth of buyers in the insurance market falls.We would expect insurance premiums to _____ as the _____ curve shifts _____.

A) rise;supply;left
B) fall;supply;right
C) fall;demand;left
D) rise;demand;right

Question 55

We would consider a tornado and a CEO scandal that hit a construction company on the same day as _____ events.

A) independent
B) dependent
C) premium
D) probable

Question 56

Which pair of events is NOT independent?

A) You forget your umbrella;it rains.
B) There is a heat wave;demand for ice increases.
C) You didn't study last night;there is a quiz in your economics class.
D) You don't clean your apartment;you have unexpected company.

Question 57

People who want to reduce the risk they face may pay other people who are less sensitive to risk to take on some of their risk.As a result:

A) a market for risk is illegal.
B) trade in risk reduces mutual gains.
C) total risk increases.
D) people who are willing to accept more risk will purchase from people who are less willing.

Question 58

As the premium for an insurance policy rises,there is a(n)_____ in the _____ insurance.

A) decrease;demand for
B) increase;supply of
C) decrease;quantity demanded of
D) decrease;supply of

Question 59

The funds that an insurance company may have to pay out are known as the:

A) fair premium.
B) capital at risk.
C) total premium.
D) deductible.

Question 60

If those who are most willing to bear risk end up bearing it,then we say that the insurance market is:

A) experiencing adverse selection.
B) efficient.
C) equitable.
D) showing signs of moral hazard.

Question 61

People faced with adverse selection use _____ to deal with it.

A) screening
B) signals
C) reputation
D) screening,signals,and reputation

Question 62

At the end of the 1980s,Lloyd's of London was in severe financial trouble because of:

A) a major recession in Western Europe and the United States.
B) terror attacks by the IRA.
C) asbestos claims.
D) the war in Iraq.

Question 63

Which strategy is NOT used for dealing with adverse selection in the labour market?

A) careful screening of an applicant
B) examination of signals from an applicant
C) obtaining reference letters from an applicant's previous place of employment
D) openly asking candidates of any hidden work problems from their past

Question 64

The strategy of investing in several assets so that any possible losses are independent events is:

A) diversification.
B) private information.
C) moral hazard.
D) adverse selection.

Question 65

Which pair of events is likely to be positively correlated?

A) stock prices of computer companies and of tire companies
B) flood damage in Quebec and forest fire damage in British Colombia
C) sales of ice cream and cars on a hot summer day
D) a week-long power outage due to a large ice storm and battery sales

Question 66

Companies offering life insurance often require a drug test to determine whether the buyer is a smoker.A smoker must pay a higher premium.This is an example of:

A) providing the buyer with a personal stake,a way of dealing with moral hazard.
B) screening to deal with adverse selection.
C) the demand curve shifting right because of an increase in risk.
D) pooling of risk with others.

Question 67

A life insurance company will often require an applicant to submit to a brief physical exam to assess that person's basic level of health.This practice is a form of _____ to lessen the problem of _____.

A) diversification;moral hazard
B) signalling;deductibles
C) reputation;adverse selection
D) screening;adverse selection

Question 68

The problem of adverse selection:

A) occurs when sellers (who know more than buyers about the quality of the product)deliberately select inferior products to sell.
B) is also referred to as the moral hazard problem.
C) can result in an overall increase in the gains from trade.
D) occurs when an employer fires the wrong person.

Question 69

The opportunity to engage in pooling shifts the _____ curve of insurance to the right;insurance companies will take on _____ risk and charge a _____ premium than without pooling.

A) supply;more;lower
B) demand;more;lower
C) supply;less;higher
D) demand;less;higher

Question 70

Which factor is a limit to the ability of diversification to reduce risk?

A) losses due to bad decision-making
B) key raw materials
C) industrial life cycles
D) economic losses from bad weather

Question 71

If relevant events are _____,diversification will NOT reduce risk.

A) positively correlated
B) negatively correlated
C) dependent
D) independent

Question 72

Asymmetric,or private,information:

A) is an important explanation of the variation (or asymmetric performance)of individuals on standardized tests.
B) refers to personal information (e.g. ,regarding gender or ethnicity)that a person is not obligated to reveal on a job application.
C) is relevant for an economic transaction and is known only by some of the people involved in the transaction.
D) is protected by patents or copyrights.

Question 73

Use the following to answer questions :
Scenario: Diversification
Morris is considering investing $10 000 in a sunglass company or a rain poncho company.If it is a rainy year and he invests only in the sunglass company,he will lose $5 000.However,if it is a rainy year and he invests only in the rain poncho company,he will earn $10 000.If it is a sunny year and he invests only in the sunglass company,he will earn $10 000;if he invests only in the rain poncho company,he will lose $5 000 in a sunny year.There is a 50% chance of a sunny year and a 50% chance of a rainy year.
(Scenario: Diversification)Use Scenario: Diversification.If Morris invests all of his money in the rain poncho company,what is his expected gain or loss?

A) a loss of $2 500
B) to break even
C) a gain of $2 500
D) a gain of $10 000

Question 74

When some people know things that other people don't know,there is _____;it can _____ economic decisions.

A) risk aversion;facilitate
B) blind strategy;delay
C) private information;distort
D) blind trust;diversify

Question 75

Investors in agricultural corporations face many correlated financial risks.Which example does NOT illustrate correlated risks for the agricultural industry?

A) losses due to drought and changes in the exchange rate with the euro
B) political events that can lead to fewer crop subsidies and fewer milk supports
C) recessions and changes in availability of credit
D) the spread of genetically modified crops and the presence of locusts

Question 76

If an insurance company insured 100 000 cars across the province against theft,which statement would NOT be true?

A) The insurance company would be fairly certain of the number of cars that will be stolen.
B) The insurance company would be pooling risks.
C) The insurance company would know with a fair amount of certainty the expected payoff on the insurance policies.
D) The insurance company must assume that very few cars will be stolen.

Question 77

In which situation is adverse selection MOST likely to be a problem?

A) buying tomatoes at the local farmers' market
B) hiring a new manager to work the night shift
C) buying a new lawnmower
D) buying a house directly from the previous owner

Question 78

Use the following to answer questions :
Scenario: Diversification
Morris is considering investing $10 000 in a sunglass company or a rain poncho company.If it is a rainy year and he invests only in the sunglass company,he will lose $5 000.However,if it is a rainy year and he invests only in the rain poncho company,he will earn $10 000.If it is a sunny year and he invests only in the sunglass company,he will earn $10 000;if he invests only in the rain poncho company,he will lose $5 000 in a sunny year.There is a 50% chance of a sunny year and a 50% chance of a rainy year.
(Scenario: Diversification)Use Scenario: Diversification.If Morris invests half of his money in the sunglass company and half in the rain poncho company,what is his expected gain or loss?

A) a loss of $2 500
B) to break even
C) a gain of $2 500
D) a gain of $10 000

Question 79

An individual can almost eliminate risk by taking a small share in many independent events or by taking advantage of the predictability associated with large numbers of independent events.This strategy is known as:

A) specializing.
B) floating.
C) pooling.
D) insuring.

Question 80

Use the following to answer questions :
Scenario: Diversification
Morris is considering investing $10 000 in a sunglass company or a rain poncho company.If it is a rainy year and he invests only in the sunglass company,he will lose $5 000.However,if it is a rainy year and he invests only in the rain poncho company,he will earn $10 000.If it is a sunny year and he invests only in the sunglass company,he will earn $10 000;if he invests only in the rain poncho company,he will lose $5 000 in a sunny year.There is a 50% chance of a sunny year and a 50% chance of a rainy year.
(Scenario: Diversification)Use Scenario: Diversification.If Morris invests half of his money in the sunglass company and half in the rain poncho company,he will earn _____ in a sunny year and _____ in a rainy year.

A) $2 500;$0
B) $1 250;$1 250
C) -$2 500;$2 500
D) $2 500;$2 500