Certainty equivalent of the real estate investment

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A young couple has $20,000 (90% of their savings) to invest in either savings bonds or a real estate deal. The (zero coupon) savings bonds return $25,000 ($5,000 interest) in three years. The (completely liquid) real estate investment, after three years, is worth $100,000 if economic conditions are good (40% chance), and worth nothing ($0) if economic conditions are bad (60%). The couple decides to invest in the savings bonds. a. What do you know about the certainty equivalent (for the couple) of the real estate investment? HINT – Make sure you understand the concept of certainty equivalence. b. What would you do in these circumstances? c. Give me an example of a different set of probabilities that would change your decision in b”.

Reference no: EM13966292

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