An investor is considering two equally risky investments.Investment A is expected to return $1,000 per year for the next 5 years.Investment B is expected to return $6,000 at the end of 5 years.Which of the following statements is MOST correct if both investments A and B have the same cost?
A) A risk averse investor will select investment B because it is expected to provide the most cash ($6,000 $5,000).
B) A risk averse investor will select investment A because it provides cash earlier than investment B.
C) The investor will select investment A only if the cost is less than $1,000.
D) The investor may select investment A or investment B depending on the opportunity cost of money.

Question

An investor is considering two equally risky investments.Investment A is expected to return $1,000 per year for the next 5 years.Investment B is expected to return $6,000 at the end of 5 years.Which of the following statements is MOST correct if both investments A and B have the same cost?
A) A risk averse investor will select investment B because it is expected to provide the most cash ($6,000 > $5,000).
B) A risk averse investor will select investment A because it provides cash earlier than investment B.
C) The investor will select investment A only if the cost is less than $1,000.
D) The investor may select investment A or investment B depending on the opportunity cost of money.

Quizplus · Accepted Answer

The best choice depends on the opportunity cost of money. If the investor has alternative investment opportunities that offer a higher return than Investment A's $1,000 annual return, then Investment B may be more attractive. However, if the investor has a lower opportunity cost of money, then the early cash flows provided by Investment A may be more valuable, making it the better choice. Therefore, the investor may select either Investment A or B, depending on the opportunity cost of money.

An Investor Is Considering Two Equally Risky Investments