Investment Decisions

Homework #2                                                                   

Expansion Options                                  Favorable Mkt                  Unfavorable Mkt

Build large work shop                               +  $250,000                           -  $325,000

Build medium sized shop                        +  $300,000                          -  $225,000

Build small work shop                              +  $ 165,000                         -    $25,000

Given the pay off table above, an optimistic decision maker must decide whether to invest in building a large, medium or small work shop.  Which option should he (or she) select?

2.       Consider the following pay off table relating to the purchase of investment decisions:

Alternatives                               Good Economy                                 Poor Economy

Stocks                                           + $70,000                                               - $25,000

Bonds                                           + $40,000                                               - $20,000

CDs                                                                + $25,000                                               + $22,000          

Probability                                 0.6                                                             0.4      

a.       (2 points) What decision would maximize expected profits?

b.      (2 points)  What is the maximum amount that should be paid for a perfect forecast of the economy?  (i.e., EVPI).

3.       The following table shows the grades Applied Decision Methods students got on their first test and also their final grades in the course:

Student        1^st Test                 Final Grade

A                     90                           80

B                     75                           70

C                     88                           82

D                     80                           73

E                      96                           94

F                      70                           64

G                     66                           64

H                     95                           95

I                       75                           76

a.       (3 points) Develop a regression equation that could be used to predict the final average in the course based on the 1^st test grade.

b.      (1 points) Using your predicting equation, predict the final average of a student who made a 75 on the 1^st test.