Asked by Cynthia Aborn on May 31, 2024
Verified
An investor has to choose between stocks A&B,each selling for $10.Stock A,can either increase in price to $12,with a 50% probability or stay at $10 with a 50% probability.Stock B can either increase in price to $15 with a 50% probability or go down to $7 with a 50% probability.Which of the stocks would the investor choose
A) Stock A
B) Stock B
C) None of the stocks
D) The investor would exit the market
Stocks
Shares of ownership in a company that represent a claim on the company's earnings and assets.
Probability
The measure of the likelihood that an event will occur, often expressed as a number between 0 and 1.
- Understand investment decisions under uncertainty and the significance of risk premiums.
Verified Answer
ZK
Zybrea KnightJun 07, 2024
Final Answer :
A
Explanation :
The expected value of Stock A is higher than that of Stock B. For Stock A, the expected value is $11 (0.5 * $12 + 0.5 * $10), while for Stock B, it is $11 as well (0.5 * $15 + 0.5 * $7). However, Stock A offers a no-loss scenario which is less risky compared to Stock B, which can decrease in value.
Learning Objectives
- Understand investment decisions under uncertainty and the significance of risk premiums.