Assume that the economy can be in three possible states next year: boom, normal, or slow economic growth. An expert source has calculated that P(boom)=.30, P(normal)=.50, and P(Slow)=.20. The returns for Stock A, RA, and Stock B, RB, under each of the economic states are provided in the table. Using the table below, what is the expected value and standard deviation of the returns for stock A and stock B? EVENT P(S) RA RB BOOM 0.3 0.20 0.30 NORMAL 0.5 0.12 0.10 SLOW 0.2 0.05 0.00
Continuous Probability Distributions
Probability distributions are of two types, which are continuous probability distributions and discrete probability distributions. A continuous probability distribution contains an infinite number of values. For example, if time is infinite: you could count from 0 to a trillion seconds, billion seconds, so on indefinitely. A discrete probability distribution consists of only a countable set of possible values.
Normal Distribution
Suppose we had to design a bathroom weighing scale, how would we decide what should be the range of the weighing machine? Would we take the highest recorded human weight in history and use that as the upper limit for our weighing scale? This may not be a great idea as the sensitivity of the scale would get reduced if the range is too large. At the same time, if we keep the upper limit too low, it may not be usable for a large percentage of the population!
Assume that the economy can be in three possible states next year: boom, normal, or slow
economic growth. An expert source has calculated that P(boom)=.30, P(normal)=.50, and P(Slow)=.20. The returns for Stock A, RA, and Stock B, RB, under each of the economic states are provided in the table. Using the table below, what is the
| P(S) | RA | RB | |
| BOOM | 0.3 | 0.20 | 0.30 |
| NORMAL | 0.5 | 0.12 | 0.10 |
| SLOW | 0.2 | 0.05 | 0.00 |
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