Rollo Megabux has $1 million to invest in stocks orbonds. The percentage yield on each investment during thecoming year depends on whether the economy has a goodor a bad year (see Table 17). It is equally likely that theeconomy will have a good or a bad year.a If Rollo is risk-neutral, how should he invest hismoney?b For $10,000, Rollo can hire a consulting firm toforecast the state of the economy. The consulting firm’sforecasts have the following properties:P(good forecast|economy good) .80P(good forecast|economy bad) .20Should Rollo hire the consulting firm? What are EVSIand EVPI? Economy EconomyHas Good Has BadYear YearYield on stocks 22% 10%Yield on bonds 16% 14%

Rollo Megabux has $1 million to invest in stocks orbonds. The percentage yield on each investment during thecoming year depends on whether the economy has a goodor a bad year (see Table 17). It is equally likely that theeconomy will have a good or a bad year.a If Rollo is risk-neutral, how should he invest hismoney?b For $10,000, Rollo can hire a consulting firm toforecast the state of the economy. The consulting firm’sforecasts have the following properties:P(good forecast|economy good) .80P(good forecast|economy bad) .20Should Rollo hire the consulting firm? What are EVSIand EVPI? Economy EconomyHas Good Has BadYear YearYield on stocks 22% 10%Yield on bonds 16% 14%

Practical Management Science

6th Edition

ISBN:9781337406659

Author:WINSTON, Wayne L.

Publisher:WINSTON, Wayne L.

Chapter11: Simulation Models

Section11.3: Financial Models

Problem 23P: Suppose you currently have a portfolio of three stocks, A, B, and C. You own 500 shares of A, 300 of...

See similar textbooks

Similar questions

If a monopolist produces q units, she can charge 400 4q dollars per unit. The variable cost is 60 per unit. a. How can the monopolist maximize her profit? b. If the monopolist must pay a sales tax of 5% of the selling price per unit, will she increase or decrease production (relative to the situation with no sales tax)? c. Continuing part b, use SolverTable to see how a change in the sales tax affects the optimal solution. Let the sales tax vary from 0% to 8% in increments of 0.5%.
In Example 11.1, the possible profits vary from negative to positive for each of the 10 possible bids examined. a. For each of these, use @RISKs RISKTARGET function to find the probability that Millers profit is positive. Do you believe these results should have any bearing on Millers choice of bid? b. Use @RISKs RISKPERCENTILE function to find the 10th percentile for each of these bids. Can you explain why the percentiles have the values you obtain?
Suppose you currently have a portfolio of three stocks, A, B, and C. You own 500 shares of A, 300 of B, and 1000 of C. The current share prices are 42.76, 81.33, and, 58.22, respectively. You plan to hold this portfolio for at least a year. During the coming year, economists have predicted that the national economy will be awful, stable, or great with probabilities 0.2, 0.5, and 0.3. Given the state of the economy, the returns (one-year percentage changes) of the three stocks are independent and normally distributed. However, the means and standard deviations of these returns depend on the state of the economy, as indicated in the file P11_23.xlsx. a. Use @RISK to simulate the value of the portfolio and the portfolio return in the next year. How likely is it that you will have a negative return? How likely is it that you will have a return of at least 25%? b. Suppose you had a crystal ball where you could predict the state of the economy with certainty. The stock returns would still be uncertain, but you would know whether your means and standard deviations come from row 6, 7, or 8 of the P11_23.xlsx file. If you learn, with certainty, that the economy is going to be great in the next year, run the appropriate simulation to answer the same questions as in part a. Repeat this if you learn that the economy is going to be awful. How do these results compare with those in part a?
Bob and Dora Sweet wish to start investing $1,000 each month. The Sweets are looking at five investment plans and wish to maximize their expected return each month. Assume interest rates remain fixed and once their investment plan is selected they do not change their mind. The investment plans offered are: Fidelity 9.1% return per year Optima 16.1% return per year CaseWay 7.3% return per year Safeway 5.6% return per year National 12.3% return per year Since Optima and National are riskier, the Sweets want a limit of 30% per month of their total investments placed in these two investments. Since Safeway and Fidelity are low risk, they want at least 40% of their investment total placed in these investments.Formulate the LP model for this problem, using the standard LP format. Remember to define the objective function, the decision variables, and label the constraint functions. There is no need to solve the problem. Note:- Do not provide handwritten solution. Maintain…
Michelle owns a house in which she keeps valuables worth 100,000 which can get stolen with probability 1%. She can purchase coverage C of the amount C ∈ [0; 100,000] at premium π = 0.05 dollars for each dollar covered. Her Bernouilli utility function is u(w) = ln(w). Assume she has no other assets. 1. Set up her maximization problem. 2. How much insurance will she choose to buy? 3. How much profits does the insurance company earn on insuring Michelle? 4. Does the fact that the insurance company earn profits mean that Michelle is worse off com-pared to the situation in which she is not insured? Explain what is happening. 5. How much insurance will she buy if insurance companies charge an actuarially fair insurance rate?
The yield on 1-year Treasury securities is 6%, 2-year securitiesyield 6.2%, 3-year securities yield 6.3%, and 4-year securities yield 6.5%. There is nomaturity risk premium. Using expectations theory and geometric averages, forecast theyields on the following securities:a. A 1-year security, 1 year from nowb. A 1-year security, 2 years from nowc. A 2-year security, 1 year from nowd. A 3-year security, 1 year from now
A salesperson for Fuller Brush has three options: quit,put forth a low-effort level, or put forth a high-effort level.Suppose for simplicity that each salesperson will either sell$0, $5,000, or $50,000 worth of brushes. The probability ofeach sales amount depends on the effort level in the mannerdescribed in Table 8.If the salesperson is paid $w, then he or she earns abenefit w1/2. Low effort costs the salesperson 0 benefit units,while high effort costs 50 benefit units. If the salespersonwere to quit Fuller and work elsewhere, then he or she couldearn a benefit of 20. Fuller wants all salespeople to put fortha high-effort level. The question is how to minimize the costof doing it. The company cannot observe the level of effortput forth by a salesperson, but they can observe the size ofhis or her sale. Thus, the wage is completely determined bythe size of the sale. Fuller must then determine w0 wagepaid for $0 in sale, w5000 wage paid for $5,000 in sales,and w50,000 wage paid for…
Fred has been told that diversifying his investments will significantly reduce risk. He hastherefore invested in two stocks. His portfolio consists of a $1 500 000 investment in DrugsLimited and $750 000 invested in shares of Pharmaceuticals Limited.Economy Probability ReturnsDrugs Limited PharmaceuticalsLimitedBoom 0.4 12% 19%Normal 0.5 8% 11%Recession 0.1 2% -4% i. What is the expected return on Fred’s portfolio? ii. Advise Huron as to the effectiveness of his diversification strategy.
A recently hired chief executive officer wants to reduce future production costs to improve the company's earnings, thereby increasingthe value of the company's stock. The plan is to invest $76,000 now and $58,000 in each of the next 6 years to improveproductivity. By how much must annual costs decrease in years 7 through 12 to recover the investment plus a return of 13% per year? The annual cost decreases by $....
Alexis Harrington received an inheritance of $95,000, and she is considering two speculative investmentsthe purchase of land and the purchase ofcattle. Each investment would be for 1 year. Under the present (normal) economic conditions, each dollar invested in land will return the principalplus 20% of the principal; each dollar invested in cattle will return the principal plus 30%. However, both investments are relatively risky. If economic conditions were to deteriorate, there is an 18% chance she would lose everything she invested in land and a 30% chance she would loseeverything she invested in cattle. Alexis does not want to lose more than $20,000 (on average). She wants to know how much to invest in eachalternative to maximize the cash value of the investments at the end of 1 year Should all of Alexis's inheritance be invested according to the optimal solution?
Alexis Harrington received an inheritance of $95,000, and she is considering two speculative investmentsthe purchase of land and the purchase ofcattle. Each investment would be for 1 year. Under the present (normal) economic conditions, each dollar invested in land will return the principalplus 20% of the principal; each dollar invested in cattle will return the principal plus 30%. However, both investments are relatively risky. If economic conditions were to deteriorate, there is an 18% chance she would lose everything she invested in land and a 30% chance she would loseeverything she invested in cattle. Alexis does not want to lose more than $20,000 (on average). She wants to know how much to invest in eachalternative to maximize the cash value of the investments at the end of 1 year How much "profit" would the optimal solution earn Alexis over and above her investment?
A company is considering a new product launch. There is a 0.6 chance thatdemand for the product will be strong and a 0.4 chance that demand will beweak. Two strategies for the launch are possible: 1 has high promotion costs anda net cash outflow of K120 000 if demand proves to be strong, and if demandproves weak a net cash outflow of (K30 000) will result. Strategy 2 has lowpromotion costs and if demand is strong will generate a cash inflow of only K80000 but with weak demand a net cash inflow of K20 000. i. Draw a decision tree and advise which course of action generates thegreatest expected profit. ii. What is the maximum amount that should be paid for market research todetermine with certainty whether demand will be strong or weak?