The swing (difference between the maximum and minimum values) of S&P500 on any one day is distributed with pdf f1(x) = 2 20(1+x/20)3 , x > 0 if the market that day is “stable” or as f2(x) = 2 200(1+x/200)3 if the market is “volatile”. A market analyst assigns a 10% chance for Apr 29, 2013 being “volatile”. The analyst believes that the market state (stable/volatile) of a day persists the next day with probability 0.9 or switches to the other state with probability 0.1. The loss associated with flagging Apr 30, 2013 as “volatile” (flag V) or “stable” (flag S) are given below. Truth about Apr 30, 2013 ‘Volatile’ ‘Stable’ Flag V 0 1 S 10 0 Should the analyst flag Apr 30, 2013 as “stable” if a swing of 20 is recorded on Apr 29, 2013? Justify your answer.
The swing (difference between the maximum and minimum values) of S&P500 on any one day is distributed with
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