Ch8 : Risk-Attitudes Flashcards
TRUE or FALSE - A risk-averse consumer will always purchase full insurance, no matter the price
FALSE - if the insurance is to expensive, no one will choose to purchase it. A risk averse person have a limit as to how much he is willing to pay to avoid risk.
Which attitude has a WTP lower that the expected gain ?
RISK-Averse
Which attitude has a WTP equal to the expected gain?
Risk-neutral
Which attitude has a WTP higher than the expected gain ?
Risk-seeking
Which attitude want to eliminate the risk
Risk-averse
Which attitude think that the expected value is the only thing that matters ?
Risk-neutral
Which attitude like risk
Risk-seeking
What is the equation of EV?
EV = p1V1 + p2V2 + … + pn*Vn
Where p1 + p2 + … + pn = 1
What is the expected value ?
It’s the outcome that you could obtain on average from playing a bet many times.
What is a fair bet ?
It’s a risky situation that yields a net expected payoff of 0
Give an exemple of a fair bet
Pay $100 for a 50% chance of winning $200
If you lose, the net payoff is -$100
If you win, the net payoff is $100
EV = 0,5-$100 + 0,5$100 = 0
Which attitude is unwilling to take a fair bet
Risk-averse
Which attitude is willing to take a fair bet ?
Risk-seeking
Which attitude is indifferent between taking a fair bet or not ?
Risk-neutral
What make not investors make the same investment decisions ?
Their different attitude towards risk
What is use to take account for differences in attitudes toward risk?
The notion of utility
What is the equation of EU?
EU = p1 * U(V1) + p2 * U(V2)
Where p1 + p2 + … + pn = 1
What is an individual’s expected utility ?
It’s her preference over choices that have uncertain outcomes ( gambles or a risky investment )
What measure the utility of the expected value ?
The investor’s utility of he could get the EV with certainty
How to find the maximum premium a person would be willing to pay for full insurance ?
U(value - premium) = EU
Indeed, you are willing to pay a price that makes you indifferent between fully insuring at this price and not insuring at all
When are risks seeker willing to pay for insurance ?
They will pay for insurance if the premium is low enough
In a decision tree, a risk-neutral will only look at what ?
At the expected gain
Compute EV
In a decision tree, a risk-averse will only look at what ?
At the expected utility
Compute EU
In which direction does a person’s attitude toward risk have an influence on the value of information ?
Having accès to information reduces risk, therefore, the more risk averse a person is, the more she values information
