Kathy Smith Is Contemplating Her First Major Purchase of a Lifetime

Essay

Kathy Smith is contemplating her first major purchase of a lifetime, her own primary residence. Her planning horizon is 5 years, and she plans to sell the house in 5 years. She is wondering whether it will be a real estate boom or bust in the next 5 years. Her current probability estimate is 0.3 for boom and 0.7 for bust. The following table gives the net profit she expects to make for each combination of decision and random outcome.

(A) Find the EMV maximizing decision and the value of the best EMV.
(B) Using sensitivity analysis, find the range of probability for random outcome (Boom) and the corresponding EMV maximizing decision for each range.