FIN 401 Chapter Notes - Chapter 5: Discounting, Investment, Interest

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greensheep522

30 Jan 2017

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Future value (fv) refers to the amount of money to which an investment would grow over some length of time at some given interest rate. In general, if you invest for one period at an interest rate of r, your investment grows to (1 + r) per dollar invested. In our example, r is 10 percent, so your investment grows to (1 + . 10) = 1. 1 dollars per dollar invested. You invested in this case, so you ended up with (1. 10) = . If you leave the entire in the bank, you will earn . 10 = in interest during the second year, so you will have a total of + 11 = . This is the future value of in two years at 10 percent. Another way of looking at it is that one year from now you are effectively investing.

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QUESTION 1 The time value of money refers to the issue of: A. what the value of the stream of future cash flows is today. B. why a dollar received tomorrow is worth more than a dollar received today. C. what the time required to double an amount of money. D. why people prefer to consume things at some time in the future rather than today.

QUESTION 2 The process of converting an amount given at the present time into a future value is called: A. annualizing. B. discounting. C. compounding. D. capital budgeting. 2 points

QUESTION 3 Juan Vinson is planning to buy a house in five years. He is looking to invest $25,000 today in an index mutual fund that will provide him a return of 12 percent annually. How much will he have at the end of five years? (Round to the nearest dollar.) A. $45,000 B. $28,000 C. $44,059 D. $28,530 2 points

QUESTION 4 Which of the following statements is true with respect to the present value of a future amount? A. The higher the discount rate, the higher the present value of a single sum for a given time period. B. The relation between present value and time is exponential. C. The greater the time period, the higher the present value of a single sum for a given interest rate. D. The lower the discount rate, the lower the present value of a single sum for a given time period. 2 points

QUESTION 5 Which of the following statements is true of the rule of 72? A. It can be used to determine the amount of time it takes to double an investment. B. It is fairly accurate for interest rates between 25 and 50 percent. C. It states that the time to double your money (TDM) approximately equals 72/i, where i represents the years it takes to double your investment. D. It can be used to estimate approximate compound interest earned for a period of 72 days. 2 points

QUESTION 6 The present value of future cash flows are computed by multiplying future value with the: A. discounting factor. B. compound factor. C. interest rate. D. number of periods. 2 points

QUESTION 7 The present value of multiple cash flows is: A. greater than the sum of the cash flows. B. equal to the sum of all the cash flows. C. less than the sum of the cash flows. D. higher or lower than the cash flows depending on the interest rate. 2 points

QUESTION 8 Cash flows associated with annuities are considered to be: A. an uneven cash flow stream. B. a constant cash flow stream. C. a mix of constant and uneven cash flow streams. D. a cash flow stream with decreasing trend. 2 points

QUESTION 9 The annuity transformation method is used to transform: A. a present value annuity to a future value annuity. B. a present value annuity to an annuity due. C. an ordinary annuity to an annuity due. D. a perpetuity to an annuity. 2 points

QUESTION 10 The true cost of borrowing is the: A. annual percentage rate. B. effective annual rate. C. quoted interest rate. D. periodic rate.

Scenario 2 Time Value of Money

One hundred dollars today is not necessarily $100 in the future when one invests in an interest-bearing account that grows in value over time. This is because of a very important financial concept called the time value of money. To determine what your investment is worth at a particular time in the future, you can use the future value formula. 1. Your grandmother put $2000 in an account that pays 5% interest rate on the day when you were born. You are now 18 years old. a) How much money do you have in your account now? b) How much money do you have in your account if you have left the money there for 25 years? c) What if you left the money until your 65th birthday? d) What happens if she has put the money into an account that earns 6% interest rate. How much money do you have in your account after 18, 25 and 65 years? Use the information above to explain how even a slight change in the interest rate can make a significant difference in accumulating savings over the long run. (use vocabulary: compound interest, time period)

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You will deposit $14,000 today. It will grow for 8 years at 10% interest compounded semiannually. You will then withdraw the funds annually over the next 6 years. The annual interest rate is 8%. Your annual withdrawal will be: Use Appendix A and Appendix D. (Round "PV Factor" and "FV Factor" to 3 decimal places.)

$9,858

$7,866

$4,166

$6,611

Lou Lewis borrows $12,000 to be repaid over 9 years at 8 percent. Repayment of principal in the first year is: Use Appendix D. (Round "PV Factor" to 3 decimal places. Round your intermediate calculations to the nearest dollar value.)

$1,045

$1,921

$961

$1,188

Mr. Blochirt is creating a college investment fund for his daughter. He will put in $6,000 per year for the next 16 years and expects to earn a 11% annual rate of return. How much money will his daughter have when she starts college? Use Appendix C. (Round "FV Factor" to 3 decimal places.)

$235,140

$224,127

235,867

$223,114

PLEASE SHOW ALL WORK!! EVEN SIMPLE CALCULATIONS, THANKS

lilaccrab451

FIN 401 Chapter Notes - Chapter 5: Discounting, Investment, Interest

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