Reference no: EM131754890

Question: Eduardo, a confused graduate student, has just won the weekly Bingo prize, and now he has to choose among three alternatives. Although he follows the five Rules of Actional Thought, he is having trouble picking and he wants your help. In the first alternative, he is given a jar of balls. Some are red, and the others are white. If Eduardo picks a red ball, he wins $2500; if he picks a white ball, he wins $1000. The second alternative is a similar deal. However, if he picks a red ball from the second jar, he wins $3000; if not, he wins nothing. The third alternative is a sure $1500. Assume Eduardo is risk-neutral.

Draw a sensitivity to probability graph and explain what the values, axes, and lines represent. Show where Eduardo's best alternative is represented on the graph and how it changes as the number of red balls in the jars changes. Also show the points of indifference that you found in both alternatives.