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Consider the following scenarios.
a. Scenario one has two options available.
Option A: There is a 50% chance of winning $1,000 and a 50% chance of winning $0.
Option B: There is a 100% chance of receiving $500.
A risk-averse person (Click to select) will choose option A will choose option B will be indifferent between options A and B might choose option A or might choose option B .
b. Scenario two has two different options available.
Option C: There is a 40% chance of winning $90 and a 60% chance of winning $110.
Option D: There is a 100% chance of winning $90.
A risk-averse person (Click to select) will choose option C will choose option D will be indifferent between options C and D might choose option C or might choose option D .
c. Scenario three has two more options available.
Option E: There is a 50% chance of winning $0 and a 50% chance of winning $100.
Option F: There is a 50% chance of winning $20 and a 50% chance of winning $60.
A risk-averse person (Click to select) will choose option E will choose option F will be indifferent between options E and F might choose option E or might choose option F .

Respuesta :

anthougo

Answer:

Scenario 1:  A risk-averse person will choose option B.

Scenario 2: A risk-averse person will choose option D.

Scenario 3: A risk-averse person will choose option F.

Explanation:

a) Data and Calculations:

Scenario 1:

Option A            Winning    Expected

Probability                               Value

50%                    $1,000         $500

50%                             0                0

Total winning =                      $500

Option B            Winning    Expected

Probability                               Value

100%                  $500           $500

0%                                                0

Total winning =                      $500

Scenario 2:

Option C            Winning    Expected

Probability                               Value

40%                    $90             $36

60%                      110               66

Total winning =                    $102

Option D           Winning    Expected

Probability                             Value

100%                   $90           $90

Scenario 3:

Option E            Winning    Expected

Probability                               Value

50%                    $0                $0

50%                    100               50

Total winning =                     $50

Option F            Winning    Expected

Probability                               Value

50%                    $20             $10

50%                      60               30

Total winning =                     $40

b) The risk-averse person tries to avoid risks at all times.  Her choice of investment favors an option that has a 100% probability of winning, thereby eliminating risks in all ramifications.  This is why she is never indifferent between two options as she factors in the probability of losing.

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