There are three investment plans for your consideration. Each plan calls for an investment of $25,000 and the return will be one year later. Plan A will return $27,500. Plan B will return $27,000 or $28,000 with probabilities of 0.4 and 0.6, respectively. Plan C will return $24,000, $27,000, or $33,000 with probabilities of 0.2, 0.5, and 0.3, respectively. If your objective is to maximize the expected return, which plan should you choose?
27*.4 + 28*.6 = 27.6 (better than Plan A)
24*.2 + 27*.5 + 33* .3 = 28.2 (best of all)
To determine which plan you should choose to maximize the expected return, we will calculate the expected return for each plan.
For Plan A, the return is given as $27,500. Therefore, the expected return for Plan A is $27,500.
For Plan B, the return can be $27,000 or $28,000, with probabilities of 0.4 and 0.6, respectively. To calculate the expected return, we multiply each possible return by its corresponding probability and sum the results. So, the expected return for Plan B is (0.4 * $27,000) + (0.6 * $28,000) = $26,600.
For Plan C, the return can be $24,000, $27,000, or $33,000, with probabilities of 0.2, 0.5, and 0.3, respectively. Similarly, we calculate the expected return for Plan C by multiplying each return by its probability and summing the results. So, the expected return for Plan C is (0.2 * $24,000) + (0.5 * $27,000) + (0.3 * $33,000) = $27,300.
Comparing the expected returns, we find that Plan A has an expected return of $27,500, Plan B has an expected return of $26,600, and Plan C has an expected return of $27,300. Therefore, to maximize the expected return, you should choose Plan A.