Assume that the risk-free rate is 5%, the risk-adjusted discount rate is 10%, the expected cash flow for t = 1 is 495, and the expected cash flow for t = 2 is 508.2
a) Assume that the cash flow risk increases geometrically through time. Compute the present value of the cash flow stream using the certainty equivalent method.
b) Assume that the cash flow risk remains constant through time. Compute the present value of the cash flow stream using the risk-adjusted discount rate method.