Question

On an installment of Who Wants to Be a Millionaire, a contestant had reached the $150,000 level. Confronted with a difficult question, he eliminated two of the wrong answers but still had no clue as to the correct answer. Guessing correctly would have increased his winnings by $150,000 (doubled) and kept him in the game while guessing it incorrectly would have reduced his winnings to only $50,000 (resulting in a $100,000 decrease in winnings).

a) If he elects to quit and keep the $150,00 is he considered risk-averse? Why?

b) What would you do and why?

Answer 1

Risk measures the uncertainty that an investor is willing to take to realize a gain from an investment.

A risk averse investor is an investor who prefers lower returns with known risks rather than higher returns with unknown risks. In other words, among various investments giving the same return with different level of risks, this investor always prefers the alternative with least interest.

a) If he elects to quit and keep the $150,00 , he will be considered as a risk averse because A risk averse investor avoids risks. S/he stays away from high-risk investments and prefers investments which provide a sure shot return. Such investors like to invest in government bonds, debentures and index funds.

Also, here in the game, he just had two options left and he knew that there is a 50% probability of choosing a correct option and also 50% for choosing the wrong one.

So, in this case the risk is very high (50%) and hence he quit which proves that he is a risk averse and not the risk neutral or risk lover.

b.) See, this is a subjective question and being a rational person, i would also quit the game.Because risk averse person is also called as rational decison maker.And, you'll be surprised to know that SEBI(Stock exchange and Board of India) did a survey and found out that out of 100 investors, approximately 68 are risk averse investors.

And, because there is high risk, i would like to quit the game. if this risk would have been 20-30%, then i would have given it a thought being a risk averse but at this 50% level of risk, i would surely quit the game.

I hope i answered your question very well, so please give a LIKE and comment, if you have any more doubt.

Thanks.