The correct answer is: A. they will assume more risk only if they are compensated by higher expected return.
Risk aversion is a concept in behavioral economics that describes people’s tendency to prefer outcomes with lower risk and uncertainty. In other words, people are generally willing to give up some potential reward in order to avoid potential losses.
This is evident in the way that people make investment decisions. When faced with two investments with the same expected return, but one with higher risk, most people will choose the investment with lower risk. This is because they are not willing to take on the extra risk for the same potential reward.
Of course, there are some people who are more risk-tolerant than others. These people are willing to take on more risk in order to potentially earn a higher return. However, even these people are likely to avoid investments with very high risk, unless they are compensated by a very high expected return.
The concept of risk aversion is important to understand because it can affect the way that people make financial decisions. If you are not aware of your own risk tolerance, you may make investment decisions that are not in your best interests. It is important to understand your own risk tolerance and to choose investments that are appropriate for your level of risk aversion.
Here is a brief explanation of each option:
- Option A: This is the correct answer. People are generally willing to give up some potential reward in order to avoid potential losses.
- Option B: This is not necessarily true. People may invest in higher-risk investments if they believe that the potential reward is worth the risk.
- Option C: This is not necessarily true. People may invest in lower-risk investments if they believe that the potential reward is not worth the risk.
- Option D: This is not necessarily true. People may invest in the stock market even though it is a high-risk investment. They may do this because they believe that the potential reward is worth the risk.