Question

Outcome	Probability	Return
Boom	60%	32.7%
Normal	25%	22.7%
Recession	10%	10.5%
Depression	5%	8.4%

What is the arithmetic expected return on this asset? Please report your answer as a decimal, rounded to the nearest thousandth. An answer of 8.63% would be entered as 0.086, for example.

Answer 1

The arithmetic expected return is computed as shown below:

= Prob of boom economy x return in boom economy + Prob of Normal economy x return in Normal economy +  Prob of recession economy x return in recession economy +  Prob of depression economy x return in depression economy

= 0.60 x 0.327 + 0.25 x 0.227 + 0.10 x 0.105 + 0.05 x 0.084

= 0.268 Approximately

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