Question: Certainty Equivalent and Risk PremiumAn investor whose initial wealth is $1,000 is offered an opportunity to play a fair gamewith 2 possible outcomes: winning $150

Certainty Equivalent and Risk PremiumAn investor whose initial wealth is $1,000 is offered an opportunity to play a fair gamewith 2 possible outcomes: winning $150 with a probability of 1/2 or losing $150 with aprobability of 1/2. The investor utility function is the natural logarithm of his wealth,u(W) = ln(W).

What is the Certainty Equivalent of this risky game?What is the exact Risk Premium of this risky game?

How good is the approximation obtained by using a Taylor series expansion?

(b)Sensitivity to initial wealth

Assume that the initial wealth is $2,000.What is the risk premium now?

(c)Sensitivity to volatility

Assume that the initial wealth is $1,000 and the outcomes are winning $300 with a proba-bility of 1/2 or losing $300 with a probability of 1/2. What is the risk premium now?

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