Question

You are trying to develop a strategy for investing in two different stocks. The anticipated annual return for a $1,000 investment in each stock under four different economic conditions has the probability distribution shown to the right. Economic Probability Condition 0.1 Recession 0.3 Slow growth 0.4 Moderate growth 0.2 Fast growth Stock X Stock Y - 150 - 30 60 20 140 90 200 160

a. Compute the expected return for stock X and for stock Y. The expected return for stock X is . (Type an integer or a decimal. Do not round.)

Answer 1

The expected return for stock X is 99 and for stock Y is 71. These calculations help investors understand potential returns from investments in different economic conditions while considering the associated risks.

Step-by-step explanation:

To compute the expected return for stock X and stock Y, we need to multiply the potential returns by their respective probabilities and then sum these products for each stock. Let's do the calculation for stock X:

• Recession (0.1 probability): -150 × 0.1 = -15
• Slow growth (0.3 probability): 60 × 0.3 = 18
• Moderate growth (0.4 probability): 140 × 0.4 = 56
• Fast growth (0.2 probability): 200 × 0.2 = 40

The expected return for stock X is: -15 + 18 + 56 + 40 = 99

Now, let's calculate for stock Y:

• Recession (0.1 probability): -30 × 0.1 = -3
• Slow growth (0.3 probability): 20 × 0.3 = 6
• Moderate growth (0.4 probability): 90 × 0.4 = 36
• Fast growth (0.2 probability): 160 × 0.2 = 32

The expected return for stock Y is: -3 + 6 + 36 + 32 = 71

When investing, it's important to consider not only expected returns, but also the risks associated with the investment profiles of different stocks.