HW5 - MS&E 252 Decision Analysis I Handout #11...

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MS&E 252 Handout #11 Decision Analysis I 10/26/2007 Page 1 of 9 HW #5 Homework Assignment #5 Due on Thursday November 1 st , 11:59 pm In this assignment you are required to turn in the probabilistic section only. Again the "Food for thought" section is optional but will help you think in depth about the concepts covered and will help with your grade on participation. As mentioned in the course guide, we will expect full knowledge of all sections on this assignment. Assigned Reading 1) “The Foundation of Decision Analysis” Chapter 4 Distinctions From the class lectures, explain the following concepts: Risk attitude Risk neutral Risk averse Risk preferring Risk odds Risk tolerance Risk aversion Delta property Value of clairvoyance Value with free clairvoyance Probabilistic questions Use the following set-up to answer questions 1, 2 and 3. Equestrinnovation, Inc. is a company that sells computers that predict the outcome of horse races. After entering the weight and average speed of a horse, the computer will tell you which horse to bet on. At the upcoming Palo Alto Derby, three horses are scheduled to run: Smarty Jones, Lion Heart, and Imperialism. Prior to the race, you assign the following probabilities to each horse finishing in first place: Horse Probability of 1 st Place Smarty Jones 0.5 Lion Heart 0.3 Imperialism 0.2
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MS&E 252 Handout #11 Decision Analysis I 10/26/2007 Page 2 of 9 HW #5 Equestrinnovation has thoroughly tested their computers, and have found that the probabilities of each reading of the computer, given the outcome (1 st Place), are as follows: Reading Outcome “Smarty Jones” “Lion Heart” “Imperialism” Smarty Jones 0.8 0.1 0.1 Lion Heart 0.1 0.8 0.1 Imperialism 0.1 0.1 0.8 Prior to the race starting, you can place a $10 bet on the winner of the horse race. The following table shows the potential winnings associated with every bet: Outcome Bet Smarty Jones Lion Heart Imperialism Smarty Jones $24 $0 $0 Lion Heart $0 $40 $0 Imperialism $0 $0 $60 You always have the option to not place a bet. 1) Suppose Mishra is risk-neutral, and that the company is offering him the use of their computer for $10 per bet. What should Mishra say to the company? a) “Thanks, I’ll accept your offer, and place a bet.” b) “No thanks, your offer is too expensive; I’ll go ahead and bet without using your computer.” c) “No thanks; although using your computer at the price you quote would be to my advantage if I were to place a bet, I’m still better off not betting at all.” d) “No thanks; using your computer at the price you quote would not be to my advantage if I were to place a bet. I choose not to bet at all.”
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HW5 - MS&E 252 Decision Analysis I Handout #11...

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