Question

Module 9 q5Please put answers in BOLD. Will Upvote.

Investment advisors estimated the stock market returns for four market segments: computers, financial, manufacturing, and pharmaceuticals. Annual return projections vary depending on whether the general economic conditions are improving, stable, or declining. The anticipated annual return percentages for each market segment under each economic condition are as follows. Economic Condition Market Segment Improving Stable Declining Computers 11 2 -4 Financial 8 4 -3 Manufacturing 6 5 -2 Pharmaceuticals 6 4 -1 (a) Assume that an individual investor wants to select one market segment for a new investment. A forecast shows improving to declining economic conditions with the following probabilities: improving (0.3), stable (0.5), and declining (0.2). What is the preferred market segment for the investor? Computers Financial Manufacturing Pharmaceuticals What is the expected return percentage of the preferred market segment? % (b) At a later date, a revised forecast shows a potential for an improvement in economic conditions. New probabilities are as follows: improving (0.5), stable (0.4), and declining (0.1). What is the preferred market segment for the investor based on these new probabilities? Computers Financial Manufacturing Pharmaceuticals What is the expected return percentage of the preferred market segment? %

Answer 1

Answer:

a. Let us first calculate the total expected return from each of the product segments under the different market condition and their probabilities:

Probability	0.3	0.5	0.2
Segment / Condition	Improving	Stable	Declining	Total Score= sum of (Return percentage * probability) of all scenarios
Computers	11	2	-4	3.5
Financial	8	4	-3	3.8
Manufacturing	6	5	-2	3.9
Pharmaceuticals	6	4	-1	3.6

Therefore, The best segment would be Manufacturing with a 3.9% expected return.

b. Let us again do the calculation based on the new probability of the scenarios:

Probability	0.5	0.4	0.1
Condition	Improving	Stable	Declining	Total Score= sum of (Return percentage * probability) of all scenarios
Computers	11	2	-4	5.9
Financial	8	4	-3	5.3
Manufacturing	6	5	-2	4.8
Pharmaceuticals	6	4	-1	4.5

Now, the preferred market segment with changed probabilities would be computers with an expected return of 5.9%.