Pretend, fat the moment, that we do not know that e x is the inverse function of ln(x), but keep in mind that In(x) has an inverse function defined on ( − ∞ , ∞ ) . Call it E. Use the identity In x y = In x + In y to deduce that E ( a + b ) = E ( a ) E ( b ) for any real numbers a, b.
Pretend, fat the moment, that we do not know that e x is the inverse function of ln(x), but keep in mind that In(x) has an inverse function defined on ( − ∞ , ∞ ) . Call it E. Use the identity In x y = In x + In y to deduce that E ( a + b ) = E ( a ) E ( b ) for any real numbers a, b.
Pretend, fat the moment, that we do not know that ex is the inverse function of ln(x), but keep in mind that In(x) has an inverse function defined on
(
−
∞
,
∞
)
. Call it E. Use the identity
In
x
y
=
In
x
+
In
y
to deduce that
E
(
a
+
b
)
=
E
(
a
)
E
(
b
)
for any real numbers a, b.
Starting with the finished version of Example 6.2, attached, change the decision criterion to "maximize expected utility," using an exponential utility function with risk tolerance $5,000,000. Display certainty equivalents on the tree.
a. Keep doubling the risk tolerance until the company's best strategy is the same as with the EMV criterion—continue with development and then market if successful.
The risk tolerance must reach $ ____________ before the risk averse company acts the same as the EMV-maximizing company.
b. With a risk tolerance of $320,000,000, the company views the optimal strategy as equivalent to receiving a sure $____________ , even though the EMV from the original strategy (with no risk tolerance) is $ ___________ .
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