Scenario: Diversification Morris is considering investing $10,000 in a sunglass company or a rain poncho company.If it is a rainy year and he invests only in the sunglass company, he expects to lose $5,000 at the end of the year.However, if it is a rainy year and he invests only in the rain poncho company, he expects to earn $10,000.If it is a sunny year and he invests only in the sunglass company, he expects to earn $10,000 at the end of the year; if he invests only in the rain poncho company, he expects to lose $5,000 in a sunny year.There is a 50% chance of a sunny year and a 50% chance of a rainy year.
(Scenario: Diversification) Based on the information in the scenario Diversification, if Morris invests half of his money in the sunglass company and half in the rain poncho company, he will earn ________ if it is a sunny year and if it is a rainy year.
A)$2,500; $0
B)$1,250; $1,250
C)-$2,500; $2,500
D)$2,500; $2,500

Question

Quizplus · Accepted Answer

Diversification helps to spread risk by investing in multiple assets. In this case, if Morris invests half of his money in each company, he would earn $2,500 in a sunny year ($10,000 from the sunglass company minus $5,000 from the rain poncho company) and earn $2,500 in a rainy year ($10,000 from the rain poncho company minus $5,000 from the sunglass company). This is a better choice than investing all his money in one company and risking losing money in case of unfavorable weather conditions.

Scenario: Diversification Morris Is Considering Investing $10,000 in a Sunglass