Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

a. Construct a loss matrix. What is the expected cost for each option? (4 points each) b. Assume that the risk manager makes decisions based

image text in transcribed

a. Construct a loss matrix. What is the expected cost for each option? (4 points each)

b. Assume that the risk manager makes decisions based on total cost. What option would she choose? (2 points)

1. Assume a firm owns a small warehouse. The warehouse is subject to the risk of a fire. Below is the probability distribution for losses: Loss ($) P(Loss) 0 0.70 4,500 0.15 8,250 0.08 9,900 0.05 12,000 0.02 The firm has four current risk management options it can use to manage this risk: [1] Retention with a worry value of $750. [2] Insurance policy with a face amount (FA) of $8,250, a premium cost of $1,500 and a deductible of 200. Implement a loss prevention program that costs $50 and changes the probability of a $0 loss to 80%, a $4,500 loss to 10%, an $8,250 loss to 6%, a $9,900 loss to 3%, and a $12,000 loss to 1%. This option has a worry value of $400. [3] Insurance of $12,000 with a premium cost of $2,400. [4] Insurance policy with a FA of $12,000, a premium of $2,000, and a deductible of 400. This option has a worry value of $60. a. Construct a loss matrix. What is the expected cost for each option? (4 points each) b. Assume that the risk manager makes decisions based on total cost. What option would she choose? (2 points) 1. Assume a firm owns a small warehouse. The warehouse is subject to the risk of a fire. Below is the probability distribution for losses: Loss ($) P(Loss) 0 0.70 4,500 0.15 8,250 0.08 9,900 0.05 12,000 0.02 The firm has four current risk management options it can use to manage this risk: [1] Retention with a worry value of $750. [2] Insurance policy with a face amount (FA) of $8,250, a premium cost of $1,500 and a deductible of 200. Implement a loss prevention program that costs $50 and changes the probability of a $0 loss to 80%, a $4,500 loss to 10%, an $8,250 loss to 6%, a $9,900 loss to 3%, and a $12,000 loss to 1%. This option has a worry value of $400. [3] Insurance of $12,000 with a premium cost of $2,400. [4] Insurance policy with a FA of $12,000, a premium of $2,000, and a deductible of 400. This option has a worry value of $60. a. Construct a loss matrix. What is the expected cost for each option? (4 points each) b. Assume that the risk manager makes decisions based on total cost. What option would she choose? (2 points)

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Financial Markets And Institutions

Authors: Jeff Madura

10th Edition

1285531507, 9781285531502

More Books

Students also viewed these Finance questions

Question

=+c) Does this model improve on the model in Exercise 18? Explain.

Answered: 1 week ago