Consider an economy where there is uncertainty about the future. In particular, at the current date...

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Consider an economy where there is uncertainty about the future. In particular, at the current date t all agents are unsure which of the 3 possible states (w1, W2, W3) will mate- rialize at date t+ 1. The probability of state w₁ is π+ (w₁) = 1, and of state w₂and w3 is πt (w2) = πt (W3) = 1. There are three stocks in the economy. At time (t + 1) each stock j returns a payoff Xt+1,j (wi) if state wi materializes. The information about the three stocks is summarized in Table 1. Stock Xt+1 W1 W2 W2 D 6 8 4 E 13 9 8 F 1 1 1 Table 1 Suppose you are risk neutral. That is, your preference are described by the following utility function U (Ct) + Et [U (C++1)], Kt where U (C) = C. Your time preference rate is r = 5%. Your income at date t is K₁ = 10. Other than stock's payoffs there is no income tomorrow. 1. What is the stochastic discount factor in this economy? 2. What is the risk-free rate in this economy? 3. What is the price of each asset at time t? 4. Suppose short-selling is not allowed. Which portfolio of assets would you hold at time t? Why? Consider an economy where there is uncertainty about the future. In particular, at the current date t all agents are unsure which of the 3 possible states (w1, W2, W3) will mate- rialize at date t+ 1. The probability of state w₁ is π+ (w₁) = 1, and of state w₂and w3 is πt (w2) = πt (W3) = 1. There are three stocks in the economy. At time (t + 1) each stock j returns a payoff Xt+1,j (wi) if state wi materializes. The information about the three stocks is summarized in Table 1. Stock Xt+1 W1 W2 W2 D 6 8 4 E 13 9 8 F 1 1 1 Table 1 Suppose you are risk neutral. That is, your preference are described by the following utility function U (Ct) + Et [U (C++1)], Kt where U (C) = C. Your time preference rate is r = 5%. Your income at date t is K₁ = 10. Other than stock's payoffs there is no income tomorrow. 1. What is the stochastic discount factor in this economy? 2. What is the risk-free rate in this economy? 3. What is the price of each asset at time t? 4. Suppose short-selling is not allowed. Which portfolio of assets would you hold at time t? Why?

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Answers to your questions about the economy with uncertainty 1 Stochastic Discount Factor SDF In a r... View the full answer