Elaine Benes is considering three possible ways to invest the $200,000 she has just inherited. Some of Elaine’s friends are considering financing a combined laundromat, video-game arcade, and pizzeria, where the young singles in the area can meet and play while doing their laundry. This venture is highly risky and could result in either a major loss or a substantial gain within a year. Elaine estimates that the chances of losing all the money (i.e. loss of $200,000) are 47%, while the chances of making a $200,000 profit are 53%. Elaine can invest in some new apartments that are being built in town. Within 1 year, this fairly conservative project will produce a profit of at least $10,000, but it might yield $20,000 or even $30,000. Elaine estimates the probabilities of these yields at 20%, 50%, and 30% respectively. Elaine can invest in some private securities that have a current yield of 5%. Construct (draw) a decision tree for Elaine to determine which investment will maximize her expected 1- year profit. How high would the yield on private securities have to be for that investment to be the best outcome of the decision tree you reported above? How much should Elaine be willing to pay for perfect information about the success of the laundromat?

MATLAB: An Introduction with Applications

6th Edition

ISBN:9781119256830

Author:Amos Gilat

Publisher:Amos Gilat

Chapter1: Starting With Matlab

Section: Chapter Questions

Problem 1P

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Elaine Benes is considering three possible ways to invest the $200,000 she has just inherited.

Some of Elaine’s friends are considering financing a combined laundromat, video-game arcade, and pizzeria, where the young singles in the area can meet and play while doing their laundry. This venture is highly risky and could result in either a major loss or a substantial gain within a year. Elaine estimates that the chances of losing all the money (i.e. loss of $200,000) are 47%, while the chances of making a $200,000 profit are 53%.

Elaine can invest in some new apartments that are being built in town. Within 1 year, this fairly conservative project will produce a profit of at least $10,000, but it might yield $20,000 or even $30,000. Elaine estimates the probabilities of these yields at 20%, 50%, and 30% respectively.

Elaine can invest in some private securities that have a current yield of 5%.

Construct (draw) a decision tree for Elaine to determine which investment will maximize her expected 1- year profit.
How high would the yield on private securities have to be for that investment to be the best outcome of the decision tree you reported above?
How much should Elaine be willing to pay for perfect information about the success of the laundromat?
How much should Elaine be willing to pay for perfect information about the success of the apartments?

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