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You have determined the profitability of a planned project by finding the present value of all the cash flows from that project. Which of the following would cause the project to look more appealing in terms of the present value of those cash flows? a. The discount rate decreases. b. The cash flows are extended over a longer period of time, but the total amount of the cash flows remains the same. c. The discount rate increases. d. Answers b and c above. e. Answers a and b above.

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Which of the following statements is most correct? a. If the discount (or interest) rate is positive, the future value of an expected series of payments will always exceed the present value of the same series. b. To increase present consumption beyond present income normally requires either the payment of interest or else an opportunity cost of interest foregone. c. Disregarding risk, if money has time value, it is impossible for the present value of a given sum to be greater than its future value. d. Disregarding risk, if the present value of a sum is equal to its future value, either k = 0 or t = 0. e. Each of the statements above is true.

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Which of the following statements is most correct? a. A 5-year $100 annuity due will have a higher present value than a 5year $100 ordinary annuity. b. A 15-year mortgage will have larger monthly payments than a 30-year mortgage of the same amount and same interest rate. c. If an investment pays 10 percent interest compounded annually, its effective rate will also be 10 percent. d. Statements a and c are correct. e. All of the statements above are correct.

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The future value of a lump sum at the end of five years is $1,000. The nominal interest rate is 10 percent and interest is compounded semiannually. Which of the following statements is most correct? a. The present value of the $1,000 is greater if interest is compounded monthly rather than semiannually. b. The effective annual rate is greater than 10 percent. c. The periodic interest rate is 5 percent. d. Both statements b and c are correct. e. All of the statements above are correct.

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A $10,000 loan is to be amortized over 5 years, with annual end-of-year payments. Given the following facts, which of these statements is most correct? a. The annual payments would be larger if the interest rate were lower. b. If the loan were amortized over 10 years rather than 5 years, and if the interest rate were the same in either case, the first payment would include more dollars of interest under the 5-year amortization plan. c. The last payment would have a higher proportion of interest than the first payment. d. The proportion of interest versus principal repayment would be the same for each of the 5 payments. e. The proportion of each payment that represents interest as opposed to repayment of principal would be higher if the interest rate were higher.

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Which of the following statements is most correct? a. The first payment under a 3-year, annual payment, amortized loan for $1,000 will include a smaller percentage (or fraction) of interest if the interest rate is 5 percent than if it is 10 percent. b. If you are lending money, then, based on effective interest rates, you should prefer to lend at a 10 percent nominal, or quoted, rate but with semiannual payments, rather than at a 10.1 percent nominal rate with annual payments. However, as a borrower you should prefer the annual payment loan. c. The value of a perpetuity (say for $100 per year) will approach infinity as the interest rate used to evaluate the perpetuity approaches zero. d. Statements a, b, and c are all true. e. Statements b and c are true.

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Find the present value of an income stream which has a negative flow of $100 per year for 3 years, a positive flow of $200 in the 4th year, and a positive flow of $300 per year in Years 5 through 8. The appropriate discount rate is 4 percent for each of the first 3 years and 5 percent for each of the later years. Thus, a cash flow accruing in Year 8 should be discounted at 5 percent for some years and 4 percent in other years. All payments occur at year-end. a. b. c. d. e. $ 528.21 $1,329.00 $ 792.49 $1,046.41 $ 875.18

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You are saving for the college education of your two children. One child will enter college in 5 years, while the other child will enter college in 7 years. College costs are currently $10,000 per year and are expected to grow at a rate of 5 percent per year. All college costs are paid at the beginning of the year. You assume that each child will be in college for four years.

Chapter 2 - Page 2

They plan to invest the same amount of money at the end of each of the next 16 years.. Your first contribution will come at the end of this year. The oldest child will begin college in 16 years and the second child will begin college in 18 years. 15 years b.000 a year (per child). These costs must be paid at the end of each year. and your final contribution will come at the date at which you make the first tuition payment for your oldest child. the first contribution will be made at the end of the year and the final contribution will be made at the time the oldest child enters college. b. d. none of the above 11 . c. 9 $2. c. then how much money must the couple save each year? a. You expect to invest your contributions into various investments which are expected to earn 8 percent per year. How much should you contribute each year in order to meet the expected cost of your children's education? a. and you withdraw $100 after 6 months. Your subscription to Her World Monthly is about to run out and you have the choice of renewing it by sending in the $10 a year regular rate or of getting a lifetime subscription to the magazine by paying $100.000 in your educational fund.) a. 18 years d.45 none of the above 10 .63 $12.10 $ 5.329. (Round up if necessary to obtain a whole number of years. but compounded semiannually.894 $3. b.e. Your plan is to contribute a fixed amount to the fund over each of the next 5 years.29 $ 5.507.You currently have $50. The parents anticipate college costs of $25. If each child takes four years to complete their college degrees. The money will be invested in securities that are certain to earn a return of 8 percent each year. e. Suppose you put $100 into a savings account today. A young couple is planning for the education of their two children. 10 years c. How many years would you have to live to make the lifetime subscription the better buy? Payments for the regular subscription are made at the beginning of each year. $ 9. Your cost of capital is 7 percent.712 $4. What would your ending balance be 20 years after the initial $100 deposit was made? . the account pays a nominal annual interest rate of 6 percent. i. 7 years e. d. e.612.343 none of the above .071.125 $5.

e. If the interest is compounded monthly.000 loan to purchase a new car.000 a year--the first payment will be made today (t = 0). b.683 $23. She is planning on making 36 contributions to her retirement account at the beginning of each of the next 36 years.00% 13.a.8942% 8.000. The first contribution will be made today (t = 0) and the final contribution will be made 35 years from today (t = 35). If you earn 11 percent in your investment account. what is the effective annual interest rate on this car loan? a. c.5431% 7. b. c. c.0438% Chapter 2 . c. d.20 $115. c. then what is the effective annual rate on this loan? a.12% 12.89 each to begin one month from today.6892% 9.50 none of the above .856 $21.118 none of the above 14 . 12.000 to buy a new car.68% 14. and the final payment will be made five years from now (t = 5). d.073 $897.380 $813. Jamilah is 30 years old and is saving for her retirement. d. You plan to contribute six payments of $3. You are contributing money to an investment account so that you can purchase a house in five years.25% none of the above 15 . This loan is to be repaid in 120 equal end-of-month installments. You have just taken out a 10-year. b. If each contribution she makes is $3. $894. how much will be in the retirement account 35 years from now (t = 35)? a. b. e. how much money will you have in the account five years from now (at t = 5)? a. e. You have just borrowed $20.739 none of the above 13 . If each of the monthly installments is $150.380 $987.Page 4 .91 $ 9. $19. e.35 $ 62. $12. 6. b. The loan agreement calls for 60 monthly payments of $444. d. 12 $226. d.412 $20. The retirement account will earn a return of 10 percent a year.

989 $2. d.2 1. d.500 $1.0 2.343 none of the above .797. e.61 $541.8 million million million million million Under the terms of the agreement all payments are made at the end of each year. however. the player wants to receive his payments in the form of a 5-year annuity due. What is the future value of the investment after 2. $5. b.02 $5.6 2. at a nominal rate of 8 percent. is compounded quarterly. Interest. Moreover. $520. If the team were to agree to the player's terms.5 years? a. What is the price of the most expensive car purchased? a.98 none of the above .e.807. e.29 $5.) Abu plans to put aside $150 each month but has already saved $1. none of the above 16 . Instead of accepting the contract.500. c. the baseball player asks his agent to negotiate a contract which has a present value of $1 million more than that which has been offered.703. Interest rates are currently quoted at 10 percent. e. Ali is planning to save $100 from every paycheck (he is paid every 2 weeks. c. An investment pays $100 every six months (semiannually) over the next 2.744. what would be the player's annual salary (in millions of ringgit)? a.5 years.4 2.07 $543. Ali's bank compounds interest every two weeks while Abu's bank compounds interest monthly.63 None of the above 18 . All cash flows are discounted at 10 percent.48 $5.63 $542. c.659 $1. A soccer player with Kelab MPPJ is offered a 5-year contract which pays him the following amounts: Year Year Year Year Year 1: 2: 3: 4: 5: $1. b. At the end of 2 years they will each spend all their savings on a car (each brother buys a car). b. d. 17 $1. Ali and Abu (2 brothers) are each trying to save enough money to buy their own cars.

463. You recently purchased a 20-year investment which pays you $100 at t = 1. e. b. interest is compounded quarterly. Which of the following is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting? a. b. Preferred stock. What is the annual cash flow received at the end of each of the final 17 years. $6.19 . e. What should be the price of the security that you just purchased? a. Alternative investments of equal risk have a required return of 9 percent. X. and pays 10 percent compounded monthly (that is.46 $6.544. The investment cost you $5. e. c. b. $600 $625 $650 $675 none of the above 22 . d.451. c.21 none of the above 20 . at the end of each of the remaining 17 years. You have been offered an investment that pays $500 at the end of every 6 months for the next 3 years. b. The security lasts for ten years. Accounts payable. c.231. however.11 $6.444. d. What is the present value of the investment? a. e.67 $2. $500 at t = 2. Another security of equal risk also has a maturity of ten years. $750 at t = 3.73 $2. c.566.87. and some fixed cash flow. $2.33 none of the above 21 .66 $2.175.82 $6. Common stock. d. Long-term debt. the nominal rate is 10 percent). what is X? a. You have just bought a security which pays $500 every six months. All of the above are considered capital components for WACC and capital budgeting purposes. The nominal interest rate is 12 percent.458. that is. Chapter 2 . d.108.Page 6 .

0. at least in theory. One could also construct a scatter diagram of returns on the stock versus those on the market. . The beta coefficient of a stock is normally found by running a regression of past returns on the stock against past returns on a stock market index. you would by definition have a riskless portfolio. and use it as beta. Company X has a lower standard deviation than Company Y. estimate the slope of the line of best fit. information. Statements a and b are correct. then. All of the statements above are true. c.0. which of the following statements is most Given this correct? a. It is theoretically possible for a stock to have a beta of 1. its required rate of return would be equal to the riskless (defaultfree) rate of return. b. b. e. You observe the following information regarding Company X and Company Y: • • • Company X has a higher expected mean return than Company Y. Your 1-stock portfolio would be even less risky if the stock had a negative beta. Company X has more company-specific risk. If a stock did have a beta of 1. rRF. and c are correct. b. Which of the following statements is most correct? a. c. Company X is a better stock to buy. Statements a. d.23 . 24 Company X has a lower coefficient of variation. e. d. Company X has a higher beta than Company Y. If you found a stock with a zero beta and held it as the only stock in your portfolio. . The beta of a portfolio of stocks is always larger than the betas of any of the individual stocks.

. longer. Asset X. longer. smaller. the the time to maturity.6 0.25 10 Asset X.Page 8 . the the change in price.10 2 0.e. b. for a given change in the required rate of return. 5. 6. Either one.25 8 0. e. smaller. shorter. d. Answers c and d are correct.10 2 0. Assume that a new law is passed only one asset.00% none of the above Pi ____ 0. 10. since its expected return is higher. 15%. greater.05 -3% 0.10 -3% 0.30 5 0. Given the following probability distribution. d. c. larger. the probability distributions) Asset Y P r 0. e. b.18% 15%. One of the basic relationships in interest rate theory is that. Chapter 2 .2 rJ ____ 10% 15 20 27 .30 8 0. d. c. expected 26 . since its coefficient of variation is lower and its expected return is higher.16% 15%. a.2 0. shorter. other things held constant. since its standard deviation is lower.50% 12%. which restricts investors to holding investor is considering two possible in isolation. Asset Y. since its beta is probably lower. c. since the expected returns are the same. A risk-averse assets as the asset to be held returns and related probabilities are as follows: Asset X P r 0.25 5 0. b.30 10 Which asset should be preferred? a.25 . e. what is the return and the standard deviation of returns for Security J? State _____ 1 2 3 a. The assets' possible (i. 3. Asset Y.

d. the expected capital gains yield will always be positive because an investor would not purchase a bond with an expected capital loss. d. Rising inflation makes the actual yield to maturity on a bond greater than the quoted yield to maturity which is based on market prices. b.28 . A 10-year corporate bond has an annual coupon payment of 9 percent. c. b. long-term bonds have more interest rate risk than short term bonds. All of the answers above are correct. short-term bonds have more reinvestment risk than do long-term bonds. The bond’s yield to maturity is 9 percent. Which of the following statements is most correct? a. . The yield to maturity for a coupon bond that sells at its par value consists entirely of an interest yield. 29 . then the bond will be trading at a premium. If the bond’s yield to maturity remains constant. All else equal. 32 . The current yield on Bond A exceeds the current yield on Bond B. Which of the following statements is most correct? a. The bond is currently selling at par ($1. b. Both answers a and c are correct. On an expected yield basis. The market value of a bond will always approach its par value as its maturity date approaches. All else equal. This holds true even if the firm enters bankruptcy. c. The bond’s current yield is 9 percent. Which of the following statements is most correct? a. Bond A must have a higher yield to maturity than Bond B. Both a and c are correct. 31 . Which of the following statements is most correct? a. its current yield equals its yield to maturity. therefore. the bond’s price will remain at par. the relative price change of a 10-year coupon bond will be greater than the relative price change of a 10year zero coupon bond. Which of the following statements is most correct? a. c. 30 . e. If interest rates increase. it has a zero expected capital gains yield. If a coupon bond is selling at par. If a bond’s yield to maturity exceeds its annual coupon. d. c. All else equal. All of the statements above are correct.000). e. Statements a and c are correct. All of the statements above are false. e. None of the answers above is correct. higher coupon bonds have more reinvestment risk than low coupon bonds. e. b. d.

e. If you require a 9 percent nominal yield to maturity on this investment. $905.106.b. a face value of $1. beginning today (i.000 face value.000 face value.Page 10 .19 $1. A 10-year bond with a 10 percent coupon. 35 . 33 . If a coupon bond is selling at par. an annual coupon rate of 10 percent. what is the maximum price you should be willing to pay for the bond? a. Both b and c are correct. Leo wants Ling Ling to cash in the bonds so the two of them can use the money to "live like royalty" for two years in Monte Carlo. 10 percent coupon bond with semiannual interest payments. An 8-year bond with a 9 percent coupon.74 $1. All of the above have the Leoe price risk since they all mature in 10 years. Tan Ling Ling recently inherited some bonds (face value $100. d.35 $1. two payments. $1. zero coupon bond. and soon thereafter she became engaged to Leo Samuel. its current yield equals its yield to maturity. and it is now January 1. d. c. 34 .000 face value. c.76 none of the above 36 . A 10-year.. A 3-year bond with a 10 percent coupon.103. Which of the following bonds will have the largest percentage increase in price? a. c. what would be the largest equal annual amounts she could withdraw for two years. $1. The 2 percent annual coupon bonds mature on January 1.e. 10 percent coupon bond with annual interest payments. A 10-year. If a bond is selling at a discount. A 10-year $100 annuity. the yield to call is a better measure of return than the yield to maturity. Assume that all interest rates in the economy decline from 10 percent to 9 percent. the first payment today and the second payment one year from today)? Chapter 2 .000) from her father. A 10-year.000. If Ling Ling sells her bonds now and puts the proceeds into an account which pays 10 percent compounded annually. $1. d. A 10-year zero coupon bond. e. b. 2024. Assume that you wish to purchase a bond with a 30-year maturity.102. 2004. b. e. e. Which of the following has the greatest price risk? a. and semiannual interest payments. Both a and b are correct. Interest on these bonds is paid annually on December 31 of each year. d. and new annual coupon bonds with similar risk and maturity are currently yielding 12 percent. A 1-year bond with a 15 percent coupon. b. c. a University of Florida marketing graduate.

078. how many new bonds must GMZ issue to raise $2. Interest on this bond is paid quarterly.000. If both bonds have the same yield. compounded quarterly. and pay $40 in interest every six months. 2.e. year from now? 39 . A corporate bond with a $1.097 $1. What is the price of the bond? a. of 9. $ 634.000 $1. the firm wishes to issue new bonds that would have a maturity of 10 years. You just purchased a 15-year bond The bond has a face value of $1. GMZ Berhad recently issued 10-year bonds at a price of $1.025 $1.305 none of the above 37 . and a current yield of 10 percent. how much should she pay for the bond? a.216 none of the above with an 11 percent annual coupon. d. If your client is to earn a nominal rate of return of 12 percent.000.000.654 $25. b. c.064.100 none of the above 40 . $13. a par value of $1.065.a.000 none of the above 38 .596 3.000. they still sell for $1.000 Assuming that the yield to maturity what will be the price of the bond 1 a. d. d.18 $1. e. Their price has remained stable since they were issued.. $ 800 $ 926 $1. $1.000 face value pays a $50 coupon every six months. d. The bond will mature in ten years.708 $12.000 par value bond with a 10 percent coupon. These bonds pay $60 in interest each six months.000 5. c. b. b. e.7072 percent remains constant. e. c.000 cash? a. d. Due to additional financing needs. Your client has been offered a 5-year. c.23 none of the above . c.04 $1.400 2.86 $1.255 $29. e. and has a nominal yield to maturity of 9 percent.064 $1. b. e. b. $1. i.

you receive $20 a quarter for the first 20 quarters). The Satay Mas bond has an annual coupon rate of 8 percent and matures 20 years from today. d.037.000. 7. is 12 percent. semiannual basis. 9. e.e. b.75% c. If the yield to percent. Ayamperak Berhad recently issued 20-year bonds.89% d. This bond is selling at par value. the security has an 8 percent coupon with quarterly payments (i. Given this information. The Satay Kajang bond has a coupon rate of 8 percent.00% e. $ 898. 10.e. No difference.77 $17. During the first five years. d..000. After 10 years (40 quarters) you receive the par value.53 none of the above 43 . Also. maturity is 7 42 .22 none of the above the its are the 44 .000 par value bond issues outstanding. This bond has the same risk as the security you thinking of purchasing. During the remaining five years the security has a 10 percent coupon with quarterly payments (i. Assume that Satay Kajang and Satay Mas have similar $1. you receive $25 a quarter for the second 20 quarters). The bonds are equally risky. for both bonds. An increase in a firm's expected growth rate would normally cause the firm's required rate of return to Chapter 2 . with interest paid semiannually.060.41 . Another 10-year bond has an 8 percent semiannual coupon (i. what is the difference in current market prices of the two bonds? a.e.. $ 2. what is the yield to call? a. The bonds rate of 8 percent and pay interest semiannually. c. what should be price of the security you are considering purchasing? a. none of the above have a coupon the bonds are of par value. callable in 6 years at a call price equal to 115 percent The par value of the bonds is $1.33% b.000.. rd.72 $1.Page 12 .65 $1. c.20 $ 3. and it also matures in 20 years. 8. You are considering investing in a security that matures in 10 years with a par value of $1. If the nominal required rate of return. $1. e. coupon payment is $40 every six months).61 $ 943. b.

. its expected dividend yield is 5 percent as well. e. 47 . The required return on the market is 8 percent.00 $63. d. Answers b and c are correct. b. The stock’s dividend yield is 5 percent. Which of the following statements is most correct? a. and if investors require an 11 percent rate of return. b. You are given the following data: (1) (2) (3) (4) (5) The risk-free rate is 5 percent. Decrease. If the expected long-run growth rate for this stock is 5 percent.50 $52. . A stock’s dividend yield can never exceed the expected growth rate. An ordinary share has just paid a dividend of $3. c. $50. The expected return on the stock is 5 percent a year. The last dividend paid was $0. Beta is 1. possibly decrease. c. Beta rises to 1.00 48 .00.50 $53. or possibly remain unchanged. Fluctuate.80 per share. The stock’s price one year from now is expected to be 5 percent higher. 45 Increase.5. Possibly increase. The dividend yield on a stock is equal to the expected return less the expected capital gain. Statements a and c are correct. e. Which of the following statements is most correct? a. e. what is the price of the share? a. An increased degree of risk aversion causes the required return on the market to go to 10 percent after adjusting for the changed inflation premium. e. d. Remain constant. Assume that the required rate of return on a given stock is 13 percent. All of the answers above are correct. Now assume the following changes occur: (1) (2) (3) (4) The inflation premium drops by 1 percent. d. 46 . If the stock’s dividend is growing at a constant rate of 5 percent.3. b. c. c. A stock’s dividend is expected to grow at a constant rate of 5 percent a year.a. The expected growth rate increases to 6 percent. b.00 $50. All of the statements above are correct. The expected growth rate for the firm is 4 percent. d.

e.0× 6. is 8 percent. A share grow at percent rate of on this a.78 of stock has a dividend of D0 = $5. and long-run earnings growth is expected to be 10 percent. The future retention rate is expected to remain at 70 percent of earnings. Over the past few years. is 12 percent.00 $ 82.97 +$ 2.50. $25. rRF.87 +$ 6. then at a 15 rate for 10 more years.0× 5. c. D0. b.5× Chapter 2 .50. and then at a long-run normal growth 10 percent forever. d.00.00. 50 . If investors require a 10 percent return stock. e. $45. If the risk-free rate.0. the situation described is impossible in that no equilibrium price can be produced. $22. 70 percent of its earnings in the business. Ghazal's beta is 2. i. d. $33. b.5× 4. c.50 $212.. and the most recent dividend. rM. 5.e.11 -$ 4.35 $195.What will be the change in price per share.00.50. d.0× 4.Page 14 . the expected return on the market. on the average. $100. Ghazal Berhad has retained. was $1. what is the most likely market price and P/E ratio (P0/E1) for Ghazal's stock today? a. c.62 The data given in the problem are internally inconsistent.28 -$16. what is its current price? . $27. 49 +$12. b. assuming the stock was in equilibrium before the changes? a. The dividend is expected to a 20 percent annual rate for the next 10 years. e.

SOLUTIONS .

070 . the payments would all be higher.$277. Note: Numerical solution differs from calculator solution due to interest factor rounding.51 169.05)(1/1. Output: NPV = -277. With the same interest rate and the same beginning balance.04] + $200(1/1. Note that statement b is false because interest during Year 1 would be the interest rate times the beginning balance. 6 .05)( 1/1.7751) + $200(0.60. PV and discount rate PV versus FV Time value concepts Time value concepts Answer: a Answer: e Answer: e Answer: d Diff: E Diff: E Diff: E Diff: E Statements b and c are correct. I = 5.53.9524)(0. Required annuity payments College Cost Today = $10. CF1 = -100.3) + $200(PVIF5%. Time value concepts Answer: e Diff: M If the interest rate were higher.60. Financial calculator solution: Inputs: CF0 = 0.000. The present value is smaller if interest is compounded monthly rather than semiannually. Inflation = 5%.203. Time value concepts PV of an uneven CF stream Time line: i = 4% 0 1 | | PV = ? -100 i = 5% 3 4 | | -100 +200 Answer: d Answer: c Diff: T Diff: T 2 | -100 5 | +300 6 | +300 7 | +300 8 Yrs | +300 -277.70 = $792.8890) = -$277. Output: NPV3 = $1.3) = -$100[(1-(1/1. CF2 = 300.043) = -$100(2. Output: PV = $1.4)(PVIF5%. I = 4. CF1 = 200. Total PV = $1.203.51 + $169. I = 4. Nj = 3. statement d is the correct choice. Nj = 4. regardless of whether the loan is amortized over 5 or 10 years.51.043)/. the Year 1 interest charge will be the same. 5. 3.8890) + $300(3.043) + $300[(1-(1/1.51 = $792.49.070.5460)(0.9524)(0. the proportion of each payment that represents interest would be higher. which is $10.000. PMT = 0.1. 2. FV = -1.1)(PVIF4%.05](1/1.48 900.67 -1.013. Answer: b Diff: T .3) + $300(PVIFA5%.34 + $900. So. 8. Calculate PV of the FV of the positive CFs at Time = 3 Inputs: N = 3.33 190.13 792. 4. and all of the increase would be attributable to interest. therefore.49 Numerical solution: PV = -$100(PVIFA4%. 7.054)/. Calculate the PV of CFs 4-8 as of time = 3 at i = 5% Inputs: CF0 = 0.1)(PVIF4%.

142.324) PMT = $5.82 + $13.10 = PMT(5.000(1.CF0 CF1 CF2 CF3 CF4 CF5 = = = = = = $10.71.000 $10.775.08] $21. 1 = $16. find PMT needed to accumulate $21.96 × (1.40 = $21.05)9 = $15.55 × (1.05)7 = $14. find net amount needed in Year 5: $95.05)6 = $13.50 – $73.16) $153.071.00.000 $10.95.288.9259) + $28. Required annuity payments Answer: b Diff: T 9 . 2 = $28.28 × (1.95(0.400.513.000 t = 18: CF2 = 25.241.000 t = 19: CF3 = 50.28(0.000(0.000 .000(0.08. Finally.513.513. costs are incurred at end of year.762.7938) + $15. Calculate annuity: N = 5 I = 8 PV = -50.08)5 = $73.96(0.82 × (1.241.071.000(0.00 × (1.10 in Year 5: FVA5 = PMT(FVIFA8%.6302) PV = $153.05)8 = $14. Note: Numerical solution differs from calculator solution due to interest factor rounding.50.7938) + $50.7350) + $25.400.790 = PMT(30.10(0. Now. Financial calculator solution: Step 1 Calculate the present value of college costs at t = 16: Remember.000 $10.000(0.549.0816-1)/0.9259) + $25.712.8573) + $50.05)10 = $16.790.775.8666) PMT = $3.400.82.000 t = 20: CF4 = 50. Find FV of educational fund in 5 years: $50.08 PMT = ? = $3.000 $10.5) $21. Financial calculator solution: Enter cash flows in CF register: I = 8. 1 = $15. t = 16: CF0 = 0 t = 17: CF1 = 25.000 $10.774.775.244.96.549.95 × 1 = $12.000 × × × × × × (1. Numerical solution: Find PV of college costs in Year 5: PV = $12.56.6806) + $25.085-1)/0.324) $153. Note: Numerical solution differs from calculator solution due to interest factor rounding.775.000(0.7350) + $16.466. Calculate the annual required deposit: FVA16 = PMT(FVIFA8%.10 = PMT[(1. Numerical solution: Calculate the present value of college costs at t = 16: PV = $25.244.08] (30.466.288.711.8573) + $29.790 = PMT[(1.15.28. 2 = $29.288.000(0.000 FV = 95.10.40.05)5 = $12.6806) = $95.762.762.142(0. solve for NPV = $95. 1 = $13.10.

Number of periods for an annuity Time Line: CFLifetime CFAnnual= Answer: a Years Diff: M 0 1 2 3 n = ? 7% ├───────────┼───────────┼─────────────┼────────────┤ = 100 0 0 0 0 10 10 10 10 10 Tabular solution: Set PVLifetime = PVAnnual.000 t = 22: CF6 = 25. Output: FV = $9. 11 . solve for n.00 for 39 periods at 3% FV = $3.50. 10.793. Step 2 Calculate the annual required deposit: N = 16 I = 8 PV = 0 FV = -153. FV = 0.00...695 ≈ 15 years. 12.$100 = $3. 40 6-months | Periods FV = ? Tabular/Numerical solution: Solve for amount on deposit at the end of 6 months.03)39 = $9. PV = -3. FV = $3.54 Solve for PMT = $5. numerical/calculator Financial calculator solution: (Step 2 only) Inputs: N = 39.00(1. use exponent method. Since table does not show 39 periods.06/2) . Financial calculator solution: Inputs: I = 7. I = 3. PV = -90. Solve for NPV = $153.63. FV of a sum Answer: d Diff: M Output: N = 14.54.n) $90 = $10(PVIFA7%. Step 1 FV = $100(FVIF3%.50. Time Line: 0 3% 1 | | 100 -100 2 | 3 | 4 | .00. FV of annuity due Answer: d Diff: M There are a few ways to do this.39) = $9.000 I = 8.t = 21: CF5 = 25. $100 = $10 + $10(PVIFA7%. One way is shown below. PMT = 0.00.00(FVIF3%.793.n) 9 = PVIFA7%.n n ≈ 15 years.1) .50.$100 = $3. To get the value at t = 5 of the first 5 payments: BEGIN mode . PMT = 10. FV = $100(1 + 0. Step 2 Compound the $3.071.

FV = 0.01)12 . FV of an annuity Answer: c 13. Financial calculator solution: Calculate periodic rate and nominal rate Inputs: N = 60. Loan Term = 10 years (120 months).380. NOM% = 1. Required annuity payments Enter CF0 = CF1 = CF2 = CFs: 0 1.738. Effective annual rate Answer: a Diff: M Time Line: EAR = ? 0 i = ? 1 | | PV = -20. Output: EFF% = EAR = 12.0.60 = 44.6892%. this is a nominal rate.000 444.000. .9549 i = 1%.739.1268 = 12..89.0% × 12 = 12. 15.0438%.89(PVIFAi.380.000 = $444. To find the effective rate.1.1. I = 10.000.0.68%. PV = -20.000 PMT = 150 FV = 0 Solve for I/YR = 0. Add the last payment of $3. change your calculator to BEGIN mode.0 = 1.58 ≈ $23. PV = 0. Output: I = 1. Solve for FV = $894. enter the following: NOM% = 8.89 . Diff: M 14 .000 FV = $20. NOM% = 12. Then enter N = 35.0 = 0.68%. Effective annual rate Answer: e Diff: M Given: Loan Value = $12.6 Answer: c Diff: M 16 . and PMT = 3000. 60 Months | 444.000 = $23. N = 120 PV = -12. Monthly Payment = $150.58 + $3.7241 × 12 = 8.89 Tabular solution: $20. EAR = (1.60) PVIFAi.2 1. However.N = 5 I = 11 PV = 0 PMT = -3.58 Now add on to this the last payment that occurs at t = 5. and the value at t = 35 is $897.89 2 | 444.12681 .738.738.. Use interest rate conversion feature Inputs: P/YR = 12. PMT = 444. $20. To calculate the solution to this problem.6892 P/YR = 12 Solve for EFF% = 9.00%.000.

04 PV = 0 PMT = -100 Solve for FV = $542. 17.989 million. I = 10/26 = 0. The FV of his regular savings is: N = 2 × 12 = 24.59. PV = 0.CF3 = 2. Summing the components of Abu's savings yields $5.4713 P/YR = 2 NOM% = 10. I/YR = 10. PMT = 0. PV = -1.2937 million. BEGIN mode N = 5. PMT = 500.830.8333. I = 0. convert this effective rate to a semiannual rate: EFF% = 10. PV under non-annual compounding First. Abu's savings will have two components.1054.8 I = 10%. FV under non-annual compounding Answer: d Diff: M First. PMT = -150. FV under quarterly compounding The effective rate is given by: NOM% = 8 P/YR = 4 Solve for EFF% = 8. PV under monthly compounding Answer: b Diff: M Answer: c Diff: M Start by calculating the effective rate on the second security: P/YR = 12 NOM% = 10 Solve for EFF% = 10.2432%. calculate the value of the first security as follows: N = 10 × 2 = 20. 18 . NPV = $7. calculate the annual payments.82. Now.967. $1 + $7. I = 10.5 × 2 = 5 I = 8. and FV = ? = $3.175.797. a lump sum contribution of $1.8333. thus. The FV of his previous savings is: N = 24.4713%. FV = 0. Then. and FV = ? = $5.0 CF4 = 2.4 CF5 = 2.2937. and FV = ? = $1. find the effective annual rate for a Answer: c nominal rate Diff: M of 12% with . Now.63 which is greater than Ali's total savings.2937 = $8.04.63. I = 10/12 = 0.500 and his monthly contributions.29.2432 P/YR = 2 Solve for NOM% = 8.2107/2 = 5.08/2 = 4.2107%.744. the most expensive car purchased costs $5.500. The future value is given by: N = 2.07. 19.2937 million.3846. The nominal rate on a semiannual basis is given by: EFF% = 8. 20 .797.08%. find the FV of Ali's savings as: N = 2 × 26 = 52. PV = -8. Thus. PMT = -100. PV = 0. PMT = ? = $1. PV = $6. FV = 0.

87 CF1 = 100 CF2 = 500 CF3 = 750 I = 9.6. Convert the effective rate to a semiannual nominal rate as P/YR = 2. ˆ = 0.513. EFF% = 12.15%)2 + 0.55%. 2 σ Y 2 σ X .30(8% .05(-3%) + 0.15%)2 = 15.25(5% .30(5% .30(5%) + 0.96 FV = 0 Solve for PMT = $675.6. 22. I = 12. In order to discount the cash flows properly. Capital components Risk measures Answer: c Answer: a Diff: E Diff: E Statement a is true. and PV = ? = -$2. and NOM% = ? = 12.45%)2 + 0.quarterly compounding: P/YR = 4.10(2%) + 0. σ = 3.10(2%) + 0.15%.45%)2 + 0.645. it is necessary to find the nominal rate with semiannual compounding that corresponds to the effective rate calculated above.30(10%) = 6.10(2% .15 PMT = 0 FV = $5. Value of missing payments Answer: d Diff: M Find the FV of the price and the first three cash flows at t = 3.15%)2 + 0.15%)2 + 0.6. and EFF% = ? = 12.544. Beta coefficient Expected return Answer: a Answer: e Diff: M Diff: M ˆ r = 0.10(2% .25(8%) + 0. FV = 0.45 = 0.25(5%) + 0.45%. 24.25(10%) = 6. Y CVY = 3. PMT = 500. To do this first find the present value of them. solve for NPV = -$4. 21 .18%.453. Finally. since the coefficient of variation is equal to the standard deviation divided by the mean.766. NOM% = 12. The remaining statements are false.18/2 = 6.10(-3% .97. σ = 3.05(-3% .73.31.453.97/6. N = 17 I = 9 PV = -5. 25 .25(8% . CF0 = -5.6.10(-3%) + 0.45%)2 = 10.15%)2 + 0.73.30(10% .96.6.95. Now solve for X. 23.6.30(8%) + 0. X CVX = 3.6.55.09. rY = 0. find the PV as N = 2 × 3 = 6.451.15 = 0. N = 3 I = 9 PV = -4.45%)2 + 0.15. = 0.6.6.25(10% .6.45%)2 + 0.766.31/6.

90).2)(0. of the bonds listed the 10-year zero coupon bond will have the largest percentage increase in price. 30 .2)(0. the answer is e. 33. Therefore.10) + (0. J 27. 26 . the other statements are false.0. c. its current yield equals its YTM which equals 12%.15) + (0. 35. lowcoupon bonds are most affected by changes in interest rates. If YTM = coupon rate. Its current yield equals 10. If interest rates increase.Therefore.10 . The current yield is calculated as $90/$1. Bond concepts Statement c is correct. the correct statement is e. Price risk Answer: c Diff: M Statement c is correct.0%. its YTM = coupon rate. therefore. Zero coupon bonds have greater price risk than either of the coupon bonds or the annuity.15 . Answer: c Diff: E 29. Expected return = 15.2)(0. Price risk Answer: c Diff: M The correct answer is c. By definition.6(0. 34. Answer: e Answer: e Diff: E Diff: E Interest rate and reinvestment risk Statements a.15 = 15.2)(0. Long-term. therefore. if the bond’s YTM remains constant the bond’s price will remain at par. the other statements are false. 31.0.0316 = 3. 10% coupon bond (in a 12% interest rate environment) the bond will sell for $927.78% ($100/$927. Asset Y has a higher expected return and lower coefficient of variation and hence it would be preferred. and d are all correct.0.15)2 + 0. 32. Bond yield Bond yield Answer: b Answer: c Diff: M Diff: M Statement c is correct.000 = 9%. Bond value .16%.15)2 + (0. the other statements are incorrect.20 . Since the bond is selling at par. but its yield to maturity equals 12%.15)2 = 0. then it will trade at a discount.20) = 0. the 10-year zero coupon bond’s price change is greater than the 10-year coupon bond’s. Standard deviation = Interest rates 0.90. 28.0%. b. the other statements are false. If a bond’s YTM > annual coupon.001 = 0.6)(0. Expected return Answer: c Diff: M ˆ rJ = (0. If we let Bond B be a 5year.semiannual payment Answer: c Diff: E . So. Bond concepts Answer: e Diff: E All the statements are true. σ2 = (0. if a coupon bond is selling at par its current yield will equal its yield to maturity. 12% coupon bond that sells at par.001. the bond will sell at par. The YTC is a better measure of return than the YTM if the bond is selling at a premium. If we let Bond A be a 5-year.

255.308. (1.000 | | 2.103.6380) + $1.19. PV = -25. 60 | 50 FV = 1. PMT = 2. FV = 100. PMT = = $25.27.000(0.1220) = $2.20) + $100.80 2 ((1 . 37.000(0.1037) = $25. Output: PV = -$1.29 ≈ $13.56.1220)/0. Output: PV = -$25.5% 1 2 | 50 3 | 50 4 | 50 .305.255.000(PVIFA12%.000 PV = ? | 50 6-month Periods Numerical solution: VB = $50((1. I = 10.annual payment Answer: a Diff: M Time Line: 1/1/02 0 12% 1 | VB = ? 2 .04560) = $50(20.1/1.308. I = 4.80 ( PVIFA 10% )(1. 1/1/2022 20 Years | 2.1/1.10) Financial calculator solution: Calculate the PV of the bonds Inputs: N = 20.000. VB ≈ $1. FV = 0.56.2 = $25.000.10) (1.80. 36 . . I = 12.000 FV = 100. Bond value .10) $25.10 )/0.000(1/1.4694) + $100.Time Line: 0 | 4.000 2. PMT = 50.000(1/1.308.1/1. .103.305. Step 2 Calculate the equal payments of the annuity due.12) + $100.000(7. FV = 1.071289) = $1. Output: PMT = $13.5.000((1.103. Financial calculator solution: Inputs: N = 60. .7355)(1 .10) .000(PVIF12%. Bond value .000 Numerical solution: Step 1 Calculate PV of the bonds VB = $2.308. Calculate equal annuity due payments BEGIN mode Inputs: N = 2.20) = $2.000.semiannual payment Answer: b Diff: M .04560)/0.045) + $1.80 = $13.103.19≈ $1.257.

000(1/1.) 40. Financial calculator solution: Inputs: N = 20.03) + $1. Answer: c Diff: M Price in one year = $1. .100 × (1 + CG%) = $1.78 ≈ $1.60. Output: PV = -$925. VB ≈ $926.000 PMT = 40 VB-New = ? 2 | 60 40 . Output: PV = -$770. Price now: Current yield = Annual coupon/Price Thus: Price = Annual coupon/Current yield = $110/0. Bond value .Current yield = 9.20) = $25((1. and still sells at par. Number of bonds = $2. its yield (and the yield on the new issue) must be 6 percent semiannually.60.000.1/1.0320) = $25(14.2928%.000 40 FV = 1.38 ≈ 2.000 Numerical solution: Since the old bond issue sold at its maturity (or par) value.64 ≈ $926.0620)/0. I = 3.000/$770. 38.60 ≈ 2. Bond value .20) + $1.100.0620) = $40(11.097. Number of bonds: $2.Time Line: 0 6% 1 | | PMT = 60 VB-Old = 1.002928) (Remember to express the = $1. capital gain as a decimal. .3118) = $770.0320)/0.8775) + $1.596. 39.000(PVIF6%.4699) + $1. Future value of bond The YTM = Current yield + Capital Gain Thus: Capital gain = YTM .000(0.10% = -0. .60 = 2.quarterly payment Answer: b Diff: M Time Line: 0 3% 1 | | PMT = 25 VB = ? 2 | 25 3 | 25 4 | 25 .000.60.096. VB = $770.000(1/1.000. 20 6-month | Periods 60 FV = 1.000(PVIF3%.000(0.61.20) + $1.596 bonds.000 Numerical solution: VB = $25(PVIFA3%. The new bonds will be offered at a discount: VB = $40(PVIFA6%.10 = $1. FV = 1. . PMT = 40. Financial calculator solution: Inputs: N = 20.7072% . FV = 1.* *Rounded up to next whole bond. 20 Quarters | 25 FV = 1. The price in 1 year = Price now × (1 + CG%).5537) = $925.semiannual payment Answer: c Diff: E .0.000. I = 6.100 × (1 .000/$770.595.1/1. PMT = 25.20) = $40((1.06) + $1.

065. PMT = 80.41 . we can calculate the YTC as follows.72. Yield to call Answer: b Diff: M 7/2 = the N = ? = First.000 = 40. . recognizing that bond can be called in 6 years at a call price of 115% × 1. NPV = $1.000 Solve for PV = -$1.) So. solve for NPV. Since the comparable 10-year bond is selling at par. Now.000. since the bond you are considering purchasing has quarterly payments.150.36. I = 7. CF1 = 20. Nj = 19. FV = 1. 43.54.54 = $17. To determine the bond's price you must use the cash flow register because the payment amount changes. I = = 3. | 80 FV = 1.9216/4 = 1.8758% × 2 = 7. Nj = 20. NOM% = 12. Bond value and effective annual rate Answer: b Diff: T Since the securities are of equal risk.78.5. Required return Constant growth model Answer: e Answer: c Diff: E Diff: E . I = 6.060.000 39 40 6-month | | Periods 40 40 FV = 1.5 PMT = 50 FV = 1. 45.9216%. FV = 1. and solve for PV = ? $1. enter NOM% = 8. PMT = 40. the same as its coupon rate. PV = -1. PMT = 40. P/YR = 4. PMT = 8%/2 × 1.16. Output: EFF% = EAR = 12. . CF 0 = 0. Inputs: N = 20.000. 44. | 40 40 Financial calculator solution: Burger King VB Calculate EAR to apply to Burger King bonds using interest rate conversion feature.36% 1 TLBK | | PMT = 80 VBK = ? 0 6% 1 2 TLMcD | | | PMT = 40 40 VMcD = ? 3 | 40 2 | 80 3 | 80 20 Years .53. Output: PV = -$681.150: 6 × 2 = 12. NOM% = 7.000.07. CF2 = 25.36%. its nominal yield is 8 percent. Because it is a semiannual coupon bond.07 . Output: PV = $699.78. and solve for I = 3. Using your calculator. its effective rate is 8. (Don't forget to change back to P/YR = 1. VBK. .000 4 38 | . Calculate the difference between the two bonds' PVs Difference: VB(McD) .9804. McDonalds VB Inputs: N = 40. its nominal rate is calculated as follows: EFF% = 8.VB(BK) = 699. and solve for EFF%. . they must have the same effective rate.75%. 42 . P/YR = 2.16 percent. and calculate the value.106. Bond value Answer: d Diff: T Time Line: 0 12. CF3 = 1025. of Burger King bonds: Inputs: P/YR = 2.681.106. FV = 1. I = 12. N = 10 × 2 = 20 I = 9/2 = 4. and solve for NOM%.04. calculate the price of the bond as follows: N = 20 × 2 = 40.000 = 1. FV = 1.

50.50.10 Calculate the earnings and P/E ratio D1 = $1.50.0.65 = 0.0. P = 0 0.5%)1. Statement b is correct.30 = $5. 05 = $52.30E1. The stock's required return must equal the sum of its expected dividend yield and constant growth rate. we've been given no information about the dividend yield. If r equals g. Equilibrium stock price Numerical solution: Before: r = 5% + (8% . and the numerical result is undefined. the constant rate at which dividends are expected to grow is also the expected growth rate of the stock’s price.98 = -$4. Statement a would only be true if the dividend yield were zero. 46. the denominator is zero.$16. 0. Statement c is true.11 .04 After: rs = 4% + (10% .10 ) ˆ P0 = = $27. 49 . P = 0 0. The data in the problem are unrealistic and inconsistent with the requirements of the growth model.00(1. the others are false. the other statements are false. A stock's dividend yield can exceed the expected growth rate.9%. we have $12.0× . 05) 0. Answer: b Diff: M $0.50 $5. Constant growth stock P0 = Answer: c Diff: E $3. Statement b is false.0(12% .80(1. Supernormal growth stock Answer: e Diff: M 50.65/0. E1 = $1.50 = 5. Dividend yield and g Answer: b Diff: M 47 .80(1.3 = 8.Statement c is correct.98. Stock price and P/E ratios Answer: a Diff: M Step 1 Step 2 Calculate the required rate of return rs = 8% + 2.50(1.8%) = 16%. . $0.06) ˆ = $12.87.0.10) = $1.089 . 4) 0 ˆ = $16.4%)1. 48 .1 1 . r less than g implies a negative stock price.50(1.130 . Calculate the current market price $1. r must be greater than g for a reasonable application of the model. Step 3 ˆ P0 E1 = $27.06 Hence.11.16 − 0.5 = 13%.

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