Q1: Consider an economy with two types of? firms, S and I. S firms always move?

Question

Q1:

Consider an economy with two types of? firms, S and I. S firms always move? together, but I firms move independently of each other. For both types of firms there is a 70?% probability that the firm will have a? 20% return and a 30?% probability that the firm will have a ??30% return.

The standard deviation for the return on a portfolio of 20 type I firms is closest? to:

Q2:

Q3:

Big Cure and Little Cure are both pharmaceutical companies. Big Cure presently has a potential? "blockbuster" drug before the Food and Drug Administration? (FDA) waiting for approval. If? approved, Big? Cure's blockbuster drug will produce? $1 billion in net income for Big Cure. Little Cure has ten? separate, less important drugs before the FDA waiting for approval. If? approved, each of Little? Cure's drugs would produce $50 million in net income for Little Cure. The probability of the FDA approving a drug is 50?%.

What is the expected payoff for Little? Cure's ten? drugs?

Explanation / Answer

Q1. C

Explanation:

Standard deviation of a stock=square root of {sum of probability(return-expected return)}

Given probability of 20% return is 70% and that of -30% return is 30%.

So, expected return=20*0.7-30*0.3=5%

Thus,

Standard deviation=square root of {0.7(20-5)2+0.3(-30-5)2}

=square root of (0.7*152+0.3*-352)

=square root(0.7*225+0.3*1225)

=square root(157.5+367.5)

=square root(525)

=22.91%

Q2. C

Larger stocks have less volatility than smaller stocks.

Q3. D

Probability of approval for each drug=50% and if approved, net income from each for Little Cure=$50 million.

So, expected payoff from ten drugs of Little Cure=50*0.5*10=$250 million

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