Question

1. The decision tree for a given problem is as below. A1 8 S (0.5) (0.27) A2 o S (0.5) 15 S 4 S (0.73) (0.45) 10 S (0.55) o S a. Solve the decision tree b. Define possible decision strategies c. Create risk profile for all possible strategies d. Create cumulative risk profile for all possible strategies e. Is one strategy stochastically dominant? Explain

Answer 1

(a)

A1 0.27 -max(8,7.5) 0 A2 0 0 7.5 0.5 0+0.5 150.5 0 5.08 -0.27 8+0.73*4 15 0 0.73 5.08 max(5.08,45) 0.45 10 0 0.45 10+055 0.55 0

(b)

Possible strategies

1. A
2. A1
3. A2
4. B

(c)

Strategies	Payoffs	Probability
A	4	0.73
	8	0.27
A1	8	1
A2	0	0.5
	15	0.5
B	10	0.45
	0	0.55

(d)

Auligeqo-d 7654321 Aalllgeqold Aullqeqold

1.2 A1 0.73 0.8 0.4 4 Payoff A2 12 0.8 0.6 0.6 0.55 0.4 0.4 0 2 46 10121416 Payoff 10 Payoff