QUESTION 1 (10 Marks)

Complete markets are not possible to exist in reality. Explain what is meant by complete markets and the assumptions made for complete markets. What causes incompleteness.

QUESTION 2 (10 Marks)

Mr N. M. is lucky to have a lottery prize of Kes 20 million. He does not have any liability and does not have any claimant over this money. He has the following alternatives:

1. Give this money to his friend who agrees to pay Kes 20 million at the end of 1 st year and Kes 5 million at the end of 2 year;
2. Give this money to his brother who agrees to pay Kes 10 million per annum for three years.
3. Invest the money in a business with an expectation to get Kes 5 million every year for 15 years.
4. Exchange this money with the money which his friend Shyam is to inherit in 20 years. Shyam expects to inherit Kes 50 million.

In your views, which alternative is more profitable? What additional information is required in order to take a decision?

QUESTION 3 (10 Marks)

What assumptions are made in the Mean Variance theory? How are decisions made under this theory? What are its shortcomings

QUESTION 4 (10 Marks)

What do you understand by stochastic dominance? Differentiate between the various forms of dominance and give a critique of the theory.