Review Set 3W11 - Review Set 3 Finance 320 Winter 2011...

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Review Set 3 Finance 320 Winter 2011 Thought Questions 1. An investor is considering two different investments, one issued by Company A and one issued by Company B. Both of these investments promise to pay $10,000 in five years. Assume that market considers that the risk in receiving the promised payment is the same for both companies. Further assume that the investor agrees with the markets assessment concerning the risk of investment issued by Company A, but that the investor has a strong expectation about an announcement that Company B is about to make. The investor strongly believes that Company B will shortly release a public announcement indicating that it has negotiated a very satisfactory resolution to a lawsuit that could have forced the company into bankruptcy. What should the investor expect to happen to the price of Company B? Why? What market action should the investor take? What if the investor held the expectation that the negotiations being conducted by Company B had ended in failure? Other Review Questions 1. Differentiate between lump sum, annuity, perpetuity, and uneven stream. 2. Differentiate between an annuity due and an ordinary annuity. 3. In calculating present value of an ordinary annuity or perpetuity with the use of a financial calculator or formula the same assumption is made about when the first payment is to occur. What is that assumption? For an existing annuity, for how many days in a year is this answer correct? What is the assumption made when using formulas and calculators to calculate present value for an annuity due? For an existing annuity, for how many days in a year is this answer correct? In general, what adjustment must be made to get the correct answer for the other days in the year? Problems to Work 1. A security makes a single payment of $10,000 in 15 years and six months. If an investor feels that the risk is such that this security should pay 9.2% annually, how much should she pay for this security today? 2. Barnie, a new GVSU graduate, is considering placing $600 into an investment fund at the end of each year for the next 30 years. How much will Barnie have at the end of this time if his investments earn 8.8% annually?
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3. Barnie decides that he wants to have $2.25 million at the end of 45 years. If the interest rate is 8.7%, how much will Barnie have to invest at the start of each year to reach his goal? 4. Bernadette has invested $17,500 in an account that earns 6% each year. How many years will it take before Bernadette has $25,000? 5. An insurance company promises to pay $25,000 at the first of each year for 10 years. How much should an investor who determines that the appropriate discount rate is 7.5% be willing to pay for this stream of payments? 6.
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Review Set 3W11 - Review Set 3 Finance 320 Winter 2011...

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