FINANCE 419 (FIN 419)
P5–3 Risk preferences Sharon Smith, the financial manager for Barnett Corporation, wishes to evaluate three prospective investments: X, Y, and Z. Currently, the firm earns 12% on its investments, which have a risk index of 6%. The expected return and expected risk of the investments are as follows:
Investment Expected Return Expected Risk Index
X 14% 7%
Y 12% 8%
Z 10% 9%
a. If Sharon were risk-indifferent, which investments would she select?
Explain why.
b. If she were risk-averse, which investments would she select? Why?
c. If she were risk-seeking, which investments would she select? Why?
d. Given the traditional risk preference behavior exhibited by financial managers, which investment would be preferred? Why?
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