TotalmoneyYieldof$30000investedPercentage

After5years
FavorableMarketUnfavorableMarketFavorableMarketUnfavorableMarket
CorporateBond13.00%20,000$25,273$20,00084.24%66.67%
PreferredStock400%50%$90,000($15,000)300.00%50.00%
CommonStock800%0%$210,000($30,000)700.00%100.00%
DoNotInvest4.50%4.50%$7,385$7,38524.62%24.62%
StartingRightCorporation
Therearefouroptionsforinvestors.
1)CorporateBond
2)PreferredStock
3)CommonStock
4)Donotinvest
TotalmoneyYieldof$30000investedPercentage
After5years
FavorableMarketUnfavorableMarketFavorableMarketUnfavorableMarketCorporateBond13.00%20,000
$25,273$20,00084.24%66.67%
PreferredStock400%50%
$90,000($15,000)300.00%50.00%

CommonStock800%0%
$210,000($30,000)700.00%100.00%
DoNotInvest4.50%4.50%
$7,385$7,38524.62%24.62%
Inthissimplecase,wewillremovetheinterestadjustedassumptionandthetimevalueofmoneyAlsowe
areinthedecisionmakingunderuncertaintyenvironmentsincewedonotknowhowthemarketwill
behaveinthenext5years
1)SuePansky:veryconservative
StateofNature
AlternativesFavorableMarketUnfavorableMarketMinimumProfitCorporateBond$25,273$20,000
$20,000
PreferredStock$90,000($15,000)($15,000)
CommonStock$210,000($30,000)($30,000)
Donothing$7,385$7,385$7,385
$20,000<MaximinProfit
Suewillchoosetobuythecompany'scorporateBond
2)RayCahn:Success11%
StateofNature

AlternativesFavorableMarketUnfavorableMarketExpectedProfitCorporateBond$25,273$20,000
$20,580
PreferredStock$90,000($15,000)($3,450)
CommonStock$210,000($30,000)($3,600)
Donothing$7,385$7,385$7,385
CoefficientofRealismalpha0.110.89
$20,580

1.SuePansky,aretiredgradeschoolteacher,isconsideringinvestinginStartingRight.Sheisvery
conservativeandisariskavoider.Whatdoyourecommend?SinceSueisariskavoiderandisvery
conservative,IwouldrecommendinvestingincorporateBonds.Thereasonisthatherinvestmentof
$30,000issecuretotheextentof$20,000asthisamounthasbeenguaranteedbyJulia.Ontheotherhand
shegetsasteadyincomeattherateof13%perannum.2.RayCahn,whoiscurrentlyacommodities
broker,isalsoconsideringaninvestment,althoughhebelievesthatthereisonlyan11%chanceofsuccess.
Whatdoyourecommend?Since,RayCahnbelievesthatthereisonly11percentofsuccess,incaseof
preferredstockshisexpectedreturnsis11%X4=44%plus50%=94%.Incaseofcommonstockshis
expectedreturnsisonly88%.So,RayCahnshouldgoinforcorporatebonds.Thisisthechoice
recommendedforhim.3.LilaBattlehasdecidedtoinvestinStartingRight.WhileshebelievesthatJulia
hasagoodchanceofbeingsuccessful,Lilaisariskavoiderandveryconservative.Whatisyouradviceto
Lila?TherearetwosetsofinformationaboutLila,sinceshebelievesthatJuliahasagoodchanceofbeing
successful,sheshouldgoinforcommonstock.Ontheotherhandsheisveryconservativeandarisk

avoider,sosheshouldgoinforcorporatebonds.OnbalancetherecommendationforLilaisthatsheshould
goinforcorporatebonds.4.GeorgeYatesbelievesthatthereisanequallylikelychanceforsuccess.What
isyourrecommendation?IfGeorgeYatesgoesinforpreferredstocks,thenhisexpectedreturnsattheend
of5yearsis4x50%=200%plus50%.=200%.IfGeorgeYatesgoesinforcommonstockthenhis
expectedreturnsis8X50%=400%.Inotherwords,Yatesexpectsthemaximumincomewhenhegoesin
forcommonstocks.SoYatesshouldinvestincommonstocks.
5.PeterMetarkoisextremelyoptimistic...

|1.SuePansky||Alternatives|StatesofNature|||Profitorlossin|Profitorlossin|||FavorableMarket|
UnfavorableMarket||CorporateBond(a)|25,273|15,273||PreferredStock|90,000|15000||Common
Stock|210,000|30,000||Dosaving(b)|7,385|7,385|
Sueisapessimisticinvestor,sochoosethealternative(includingdoingsavinginsteadofinvesting)that
willreflectthemaximumoftheminimumpayoffsthatistheCorporateBondof15,273.a:Profitin
FavorableMarket:FutureValueofcorporatebondinterestspaidon13%couponrateannualbasisin5
years=25,273.ProfitinUnfavorableMarket=(minimumprinciple+interests)initialinvestment=
=20,000+25,27330,000=15,273
b:Inflationratewouldincreaseby4.5%eachyear,sodeposittheinitialamounttosavingtoolswhichare
providedalso4.5%interestrateeachyearin5years.