Question

Your company wants to decide between Investment A, which will cost $100K upfront, and Investment B, which will cost $150K upfront. If the economy performs well, Investment A will bring in $750K for your company, but if the economy performs poorly, then it will lose $250K for your company. If the economy performs well, Investment B will bring in $850K for your company, but if the economy performs poorly, then it will lose $300K for your company. There’s a 60% chance of a strong market and a 40% chance of a weak market. a. What is the EMV of Investment A? b. Additionally, discuss the relationship between the strong market-weak market dynamic and the expected difference in performance between Investment A and Investment B. c. If the EMB of Investment B increases to $260K what would be your best course of action?

Answer 1

	Inv.A	Inv.B
Upfront cost	-100	-150
Expected returns	(60%*750)+(40%*-250)=	(60%*850)+(40%*-300)=
	350	390
Expected monetary value (EMV)	250	240
Strong market-----60%	750	850
Weak Market-----40%	-250	-300

In a strong market B performs better than A

But

in a weak market, B underperforms more than A

Given the scenario, Investment in A will be referred

c. If the EMV of Investment B increases to $260K , then Investment B will be preferred

Strong market is where all informations, known & unknown, are well reflected in the prices & there is no piece of information, gaining which ,one investor has any edge over the other

In a weak market, a knowledgable investor , making research, can gain on the basis of informations discovered.