Question

10.1 Consider the following probability distribution of returns estimated for a proposed project that involves a new ultrasound machine: State of the Economy Very poor Poor Average Good Very good Probability of Occurrence 0.10 0.20 0.40 0.20 0.10 Rate of Return -10.0% 0.0 10.0 20.0 30.0 a. What is the expected rate of return on the project? b. What is the project's standard deviation of returns? What is the project's coefficient of variation (CV) of returns? (Hint: CV! is defined as the standard deviation of returns divided by the expected rate of return. It measures the amount of risk per unit of return.) c. What type of risk do the standard deviation and CV measure!! d. In what situation is this risk relevant

How do you solve for B?

Answer 1

Expected returns=Sum(Probability*returns)=0.10*(-10%)+0.20*0%+0.40*10%+0.20*20%+0.10*30%=10.0000%

Standard deviation=Sqrt(Sum(Probability*(returns-expected returns)^2))=Sqrt(0.10*(-10%-10%)^2+0.20*(0%-10%)^2+0.40*(10%-10%)^2+0.20*(20%-10%)^2+0.10*(30%-10%)^2)=10.9545%

Coefficient of Variation=Standard deviation/Expected returns=10.9545%/10%=1.0955