Jack is near retirement and worried that if the stock market falls he will not be able to wait to take his funds out, and will have to sell at the bottom of the market. Richard thinks the probability of a stock market downturn is the same, but he is only 40 and could therefore wait for another turnaround. They face the same budget line. Jack's risk/return indifference curve:
A) will be concave; Richard's will be convex.
B) will be convex; Richard's will be concave.
C) will be tangent to the budget line at a point to the left of Richard's.
D) will be tangent to the budget line at a point to the right of Richard's.
E) must still be tangent to the budget line at the same point as Richard's.

Question

Quizplus · Accepted Answer

Jack's risk/return indifference curve will be tangent to the budget line at a point to the left of Richard's because he is more risk-averse and therefore requires a higher return for the same level of risk. This means that he would need a higher return on his investments to be willing to take on the risk of potential losses. As a result, his optimal portfolio would consist of a higher proportion of less risky assets, which would be located to the left of Richard's optimal portfolio on the efficient frontier. Therefore, his indifference curve would be tangent to the budget line at a point to the left of Richard's.

Jack Is near Retirement and Worried That If the Stock