You have a utility function given by: U(W)=Ln(W), where W stands for wealth and Ln function represents
Question:
You have a utility function given by: U(W)=Ln(W), where W stands for wealth and Ln function represents the natural Logarithm. Assume your current wealth is $2,000. You are exposed to a gamble with 60% chances of gaining $700 and 40% of losing $300.
Show whether you are risk averse, risk neutral or risk lover. Compute the expected payoff from the gamble and determine your expected wealth if you take the gamble. Compute the certainty equivalent wealth to taking the gamble. Determine your Markowitz Risk Premium. If you can buy insurance that completely removes the risk for a fee of $60, will you buy it or take the gamble. Suppose you take the gamble and lose. If you have the same offer of the insurance, will you buy it. Compute your absolute risk aversion at your current initial wealth ($2,000). Determine the Arrow-Pratt risk premium at your current initial wealth ($2,000).
Financial Theory and Corporate Policy
ISBN: 978-0321127211
4th edition
Authors: Thomas E. Copeland, J. Fred Weston, Kuldeep Shastri