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TOWSON FIN 331 - Exam_2_Practice_Problems

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REMINDERS / QUOTE 2/23: Practice Problems 2/25: Exam 2 Review 3/1: Assignments 4, 5, and 6 Due 3/2: Exam 2 Don’t Forget about Study Sessions for Fin 331 The finance department offers study sessions moderated by graduate students at the same time (6pm-8pm) on Mondays, Tuesdays, Wednesdays, and Thursdays, using the same Zoom ID. The following students will moderate the Zoom sessions: • Mon: Sunghan Bae • Tues: Keshav Bhattari • Weds: Cindy Pan • Thurs: Adadapo (Reuben) Adeniyi Here is the Zoom link: *If you attend and the moderator is not present, please let me know immediately via email. “An ounce of practice is worth more than a ton of preaching.” - Mohandas (Mahatma) Gandhi5-1 FUTURE VALUE If you deposit $2000 in a bank account that pays 6% interest annually, how much will be in your account after 5 years?5-2 PRESENT VALUE What is the present value of a security that will pay $29,000 in 20 years if securities of equal risk pay 5% annually?5-3 FINDING THE REQUIRED INTEREST RATE Your parents will retire in 19 years. They currently have $350,000 saved, and they think they will need $800,000 at retirement. What annual interest rate must they earn to reach their goal, assuming they don’t save any additional funds?5-4 TIME FOR A LUMP SUM TO DOUBLE If you deposit money today in an account that pays 4% annual interest, how long will it take to double your money?5-5 TIME TO REACH A FINANCIAL GOAL You have $33,556.25 in a brokerage account, and you plan to deposit an additional $5,000 at the end of every future year until your account totals $220,000. You expect to earn 12% annually on the account. How many years will it take to reach your goal?5-6 FUTURE VALUE: ANNUITY VERSUS ANNUITY DUE What’s the future value of a 5%, 5-year ordinary annuity that pays $800 each year? If this was an annuity due, what would its future value be?5-7 PRESENT AND FUTURE VALUES OF A CASHFLOW STREAM An investment will pay $150 at the end of each of the next 3 years, $250 at the end of Year 4, $300 at the end of Year 5, and $500 at the end of Year 6. If other investments of equal risk earn 11% annually, what is its present value? Its future value?5-8 LOAN AMORTIZATION AND EAR You want to buy a car, and a local bank will lend you $40,000. The loan will be fully amortized over 5 years (60 months), and the nominal interest rate will be 8% with interest paid monthly. What will be the monthly loan payment? What will be the loan’s EAR?5-16 PRESENT VALUE OF A PERPETUITY What is the present value of a $600 perpetuity if the interest rate is 5%? If interest rates doubled to 10%, what would its present value be?5-19 FUTURE VALUE OF AN ANNUITY Your client is 26 years old. She wants to begin saving for retirement, with the first payment to come one year from now. She can save $8,000 per year, and you advise her to invest in the stock market, which you expect to provide an average return of 10% in the future. a. If she follows your advice, how much money will she have at 65? b. How much will she have at 70? c. She expects to live for 20 years if she retires at 65 and for 15 years if she retires at 70. If her investments continue to earn the same rate, how much will she be able to withdraw at the end of each year after retirement at each retirement age? a. b.c.5-23 FUTURE VALUE FOR VARIOUS COMPOUNDING PERIODS Find the amount to which $500 will grow under each of these conditions: a. 12% compounded annually for 5 years b. 12% compounded semiannually for 5 years c. 12% compounded quarterly for 5 years d. 12% compounded monthly for 5 years e. 12% compounded daily for 5 years f. Why does the observed pattern of FVs occur?5-28 NOMINAL INTEREST RATE AND EXTENDING CREDIT As a jewelry store manager, you want to offer credit, with interest on outstanding balances paid monthly. To carry receivables, you must borrow funds from your bank at a nominal 9%, monthly compounding. To offset your overhead, you want to charge your customers an EAR (of EFF%) that is 3% more than the bank is charging you. What APR should you charge your customers?7-1 BOND VALUATION Madsen Motor’s bonds have 23 years remaining to maturity. Interest is paid annually; they have a $1,000 par value; the coupon interest rate is 9%; and the yield to maturity is 11%. What is the bond’s current market price? What is the current price if interest was paid semi-annually?7-2 YIELD TO MATURITY AND FUTURE PRICE A bond has a $1,000 par value, 12 years to maturity, and an 8% annual coupon and sells for $980. a. What is its yield to maturity (YTM)? b. Assume that the yield to maturity remains constant for the next three years. What will the price be 3 years from today?7-3 BOND VALUATION Nesmith Corporation’s outstanding bonds have a $1,000 par value, an 8% semiannual coupon, 14 years to maturity, and an 11% YTM. What is the bond’s price?7-4 YIELD TO MATURITY A firm’s bonds have a maturity of 8 years with a $1000 face value, have an 11% semiannual coupon, are callable in 4 years at $1,154, and currently sell at a price of $1,283.09. What are their nominal yield to maturity and their nominal yield to call? What return should the investors expect to earn on these bonds?7-8 YIELD TO CALL Seven years ago the Templeton Company issued 20-year bonds with an 11% annual coupon rate at their $1,000 par value. The bonds had a 7.5% call premium, with 5 years of call protection. Today Templeton called the bonds. Compute the realized rate of return for an investor who purchased the bonds when they were issued and held them until they were called.7-9 YIELD TO MATURITY Harrimon Industries bonds have 6 years left to maturity. Interest is paid annually, and the bonds have a $1,000 par value and a coupon rate of 10%. a. What is the yield to maturity at a current market price of (1) $865 and (2) $1,166? b. Would you pay $865 for each bond if you thought that a “fair” market interest rate for such bonds was 12%--that is, if rd = 12%? Explain your answer.7-10 CURRENT YIELD, CAPITAL GAINS YIELD, AND YIELD TO MATURITY Pelzer Printing Inc. has bonds outstanding with 9 years left to maturity. The bonds have a 9% annual coupon rate and were issued 1 year ago at their par value of $1,000. However, due to changes in interest rates, the bond’s market price has fallen to $910.30. a. What is the yield to maturity? b. For the coming year, what

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