Question

t r Related to Checkpoint 8.1) (Expected rate of return) James Fromhotz is considering whether lo invest in a newly formed investment fund The fund's invesment objective is to acquire home mortgage securities at what it hopes wl be bargain prices. The tund sponsor has supgested to James that the fund's performance will hinge on how the national a. Based on these potential outcomes, what is your estimate of the expected rate of retun from this investment economy performs in the ooming year. Speoificaly, he suggested the folowing possible outcomes opportuny? b. Would you be intorested in making such an investment? Note that you lose all your a. The expected rate of return from this Investment opportunity i b. Would you be interested in making such an investment? (Select the best choice below.) OA. No, I would net be interested in making such an investment The economy is most elly to sink into a depression money in one year t he economy collapses into the worst stae or you double your monay the eccnomy enters into a rapid expansion "%. Rund to bo deord places) O B. Yes. I would be interested in making such an investment. The economy is most Rely to begin a rapid expension and recovery Your inserest in making such an inveetment wouls depend on your nisk tolerance if you do not ine risk you should avoid this invesment, however itf you do not mind risk you may wand to make phis invesment :Data Table State Rapid expansion and recovery Modest growh Continued recession Falls into of Economy 40% 30%

Answer 1

Expected rate of return is the sum of the multiplication of probability of state with the fund returns

Expected return = 15% * 100% + 40% * 45% + 30% * 15% + 15% * -100%

Expected rate of return from the investment opportunity = 22.50%

Would you be interested in making such an investment

Option C.

Your interest on making such an investment would depend on your risk tolerance. If you do not like risk you should avoid the investment, however, if you do not mind the risk you may want to make the investment.