Methodology I Want to Apply

Hi, I am very glad that you are here to read my article 🙂

First of all I think that I should point out that I prefer quantitative methodology due to my education. I always try to behave as rational as possible to avoid extra costs and in order not to miss chances.

Recently I came across a video of the MIT explaining the basics of finance. The lecturer brought a very good example to the class:

” Choice A: 80% chance to lose $500, 20% chance to win $500″

the calculation is done pretty fast:

the expected win is 0,20x$500=$100

the expected loss is 0,80x$500=$400

The overall expectation can be described as $100-$400=-$300

It is clearly a not-favorable gamble!

Let’s consider Choice B

“Choice B: 100% chance to lose $280”

This is pretty easy: expected loss 1x$280=$280 you are going to lose anyway.

Now imagine that you are forced to decide between choice A and B. You have the chance to sell your stocks and accept the loss of $280, but you can also gamble and try to get $500 from choice A, while only running the risk of losing $20 more than in choice B. After evaluating the expectation you will recognise that the expected costs for choice B is $20 lower. Hence, the difference of losses does not look big, many people would prefer choice A in order to have chances to still get some money by luck.

 

How would you decide and why?

Would you decribe yourself as a Risk avers, neutral or as a person who is willing to take risks?

Do you always do your calculation rather than jumping on something without calculating and trust your feelings?

Published by chess

Hi, I am an economics student in his 20's and eager to learn the basics of finance and investing. Would be glad to hear your opinion on my posts

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