Harold Rim is thinking about purchasing a share of stock in the Redwood Hotel. Redwood is expected to stay in business only one period, at the end of which it will pay a liquidating dividend. Mr. Rim has estimated the following information:
Possible Events Probability of Return on Next Best of the Economy Event Occurring Alternative Investment 1. Boom all 30 2. Moderate Boom Pe, Bde, 3. Steady Economy 3 .20 4, Moderate Recession ae m5 5. Recession ? .10 Required:
1. What is the probability of a recession?
2. Given that the minimum price for a share of Redwood is $200, what liquidating dividend must be associated with each state of the economy to make Mr. Rim indifferent between purchasing a share of Redwood stock or investing in the next best alternative investment?