Terry’s utility of wealth is given by: u(w) = ln(w).

Suppose Terry has $1 million in his bank account and a beach house worth $2 million. With probability 1/3, his beach house will get destroyed by a hurricane.

(a) Is Terry risk-averse, risk-neutral, or risk-loving? Verify your answer using calculus.

(b) Determine the actuarially fair premium for an insurance plan that will compensate him $2 million if his beach house gets destroyed by a hurricane.

(c) Write out the two expressions you would compare to determine if Terry will purchase this insurance if the premium is actuarially fair (do not evaluate them).