The 365 Data Science team is proud to invite you to our own community forum. A very well built system to support your queries, questions and give the chance to show your knowledge and help others in their path of becoming Data Science specialists.
Ask
Anybody can ask a question
Answer
Anybody can answer
Vote
The best answers are voted up and moderated by our team

Expected payoff calculation

Expected payoff calculation

0
Votes
1
Answer

Good day,
I have a question according Expected payoff calculation.
In task we compare a reasonableness of buying stocks. We have a chance:

  • 0.4 to increase a price of 1 stock to 1200$; profit = 12000 – 11000 – 100(premium) = +900$ – Result of event 1
  • 0.6 to decrease a price of 1 stock to 1000$; losses = 10000 – 11000 – 100 = -1100$ – Result of event 2

When we compare a risk, we compare a profit and losses:
E(P) = 0.4*900 + (-1100)*0.6 = 360 – 660 = -260.
I can’t understand what I missed.

1 Answer

365 Team
0
Votes

Hey Iurii,
Thanks for reaching out!

Okay, so the idea here is that you’ve struck a deal, where you have the option (but not the obligation) to buy the shares at the given price. Hence, if the price goes down, then we’re better off just purchasing the stocks at their market value ($1,000), rather than the price we agreed upon earlier ($1,100). Hence, in the second scenario we only have a loss of $100 (the premium), rather than $1,100 ( 10 * $100 losses on shares + $100 loss on the premium).

Hope this helps!
Best,
365 Vik

×
Ready to Learn
Data Science?
50% OFF