Question

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 10 2 -4 Financial 8 5 -3 Manufacturing 6 4 -2 Pharmaceuticals 6 5 -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 0.5, stable 0.2, and declining 0.3. What is the preferred market segment for the investor? - Select your answer -ComputersFinancialsManufacturingPharmaceuticalsItem 1 What is the expected return percentage? Round your answer in one decimal place. Expected Return = % (b) At a later date, a revised forecast shows a potential for an improvement in economic conditions. New probabilities are as follows: improving 0.2, stable 0.5, and declining 0.3. What is the preferred market segment for the investor based on these new probabilities? - Select your answer -ComputersFinancialsManufacturingPharmaceuticalsItem 3 What is the expected return percentage? Round your answer in one decimal place. Expected Return = %

Answer 1

(a)

Expected return percentage for Computers = 0.5 * 10 + 0.2 * 2 + 0.3 * (-4) = 4.2

Expected return percentage for Financials = 0.5 * 8 + 0.2 * 5 + 0.3 * (-3) = 4.1

Expected return percentage for Manufacturing = 0.5 * 6 + 0.2 * 4 + 0.3 * (-2) = 3.2

Expected return percentage for Pharmaceuticals = 0.5 * 6 + 0.2 * 5 + 0.3 * (-1) = 3.7

The maximum expected return percentage is for Computers. Thus, preferred market segment for the investor is Computers.

Expected Return = 4.2 %

(b)

Expected return percentage for Computers = 0.2 * 10 + 0.5 * 2 + 0.3 * (-4) = 1.8

Expected return percentage for Financials = 0.2 * 8 + 0.5 * 5 + 0.3 * (-3) = 3.2

Expected return percentage for Manufacturing = 0.2 * 6 + 0.5 * 4 + 0.3 * (-2) = 2.6

Expected return percentage for Pharmaceuticals = 0.2 * 6 + 0.5 * 5 + 0.3 * (-1) = 3.4

The maximum expected return percentage is for Pharmaceuticals. Thus, preferred market segment for the investor is Pharmaceuticals.

Expected Return = 3.4 %