Consider a project that in one year pays $50 if the economy performs well (the stock market

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Consider a project that in one year pays $50 if the economy performs well (the stock market goes up) and that pays $100 if the economy performs badly (the stock market goes down). The probability of the economy performing well is 60%, the effective annual risk-free rate is 6%, the expected return on the market is 10%, and the beta of the project is −0.50.
a. Compute the present value of the project’s cash flows using the true probabilities and expected return on the project.
b. Compute the risk-neutral probability of the economy performing well, then repeat the valuation of the project using risk-neutral valuation. Expected Return
The expected return is the profit or loss an investor anticipates on an investment that has known or anticipated rates of return (RoR). It is calculated by multiplying potential outcomes by the chances of them occurring and then totaling these...
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Derivatives Markets

ISBN: 978-0321543080

4th edition

Authors: Rober L. Macdonald

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