Question

An analyst is considering an investment in Treetops Inc. and has gathered the following information. What is the expected return for a share of the firm's stock?

State of the Economy Probability of the State Conditional Expected Return Treetops Inc
Recession 20 -20%
Steady 40 10%
Boom 40 35%
a. 14.00%
b. 5.00%
c. 8.33%
d. 625%

Answer 1

The expected return for a share of Treetops Inc.'s stock is calculated by multiplying each economic scenario's conditional return by its probability and adding them up, which results in a 14% expected return.

Step-by-step explanation:

The expected return for a share of Treetops Inc.'s stock is calculated using the probabilities of different economic scenarios along with the conditional expected returns in each scenario. We multiply each conditional expected return by its associated probability and then add these products together. The calculation is as follows:

• Recession (20% probability) x (-20% return) = -4%
• Steady (40% probability) x (10% return) = 4%
• Boom (40% probability) x (35% return) = 14%

Adding these up: -4% + 4% + 14% = 14%. Hence, the expected return on Treetops Inc.'s stock is 14%.