Fixed income hw2 - Siming Zhu AEM 4260_Fixed Income...

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Siming Zhu AEM 4260_Fixed Income September 16, 2008 Homework 2 Ch 2 – Q 2 & 9; Ch 3 – Q 12 Q2. Suppose that a life insurance company has guaranteed a payment of $14 million to a pension fund 4.5 years from now. If the life insurance company receives a premium of $10.4 million from the pension fund and can invest the entire premium for 4.5 years at an annual interest rate of 6.25%, will it have sufficient funds from this investment to meet the $14 million obligation? Using an annual interest rate of 6.25% , the $10.4 million invested by the life insurance company for 4.5 years will grow to be: FV t=4.5 = $10.4 million(1+.0625) 4.5 FV t=4.5 = $10.4 million(1.31365) FV t=4.5 = $13.662 million. Using an annual interest rate of 6.25%, the $10.4 million will grow to approximately $13.662 million in 4.5 years, which is not enough to meet the $14 million obligation. Using a semi-annual interest rate of 3.125% (6.25/2), the 10.4 million invested by the life insurance company for nine 6-months periods will grow to be: FV t=9 = $10.4 million (1+.03125) 9 FV t=9 = $10.4 million (1.31909) FV t=9 = $13.719 million $10.4 million compounding semi-annually at 3.125% will grow to approximately $13.719 million in nine 6-months periods (4.5 years), which is still not enough to meet the $14 million obligation. Q9.
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Fixed income hw2 - Siming Zhu AEM 4260_Fixed Income...

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