ADMS 3530 Review Questions + Solutions

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Unformatted text preview: ADMS 3530 Tutorial #2 Chapter 4 Key points: Time value of Money: Future value, Present value Perpetuities and annuities Annuities due Inflation and the time value of money Effective annual interest rates 1. A deposit of \$5,200 made three years ago is worth \$6,500 today. The deposit pays interest quarterly. What is the APR on this deposit? Solution: n = 3 years x 4 quarters/years = 12 quarters Using your calculator: n=12, FV=\$6,500, PV= -\$5,200, COMP I/Y I/Y =0.018769 (this is the quarterly rate, i q ), Recall APR = i m x m v Youre converted everything to a quarterly basis, so need to multiply the i/y by 4 to get the APR: APR = 1.8769% 4 = 7.5077%. 2. You want to buy a house that costs \$500,000. You make a 25% down payment and finance the rest with a 15 year mortgage. The annual mortgage rate is 6.5% compounded semi- annually. Assuming mortgage rates do not change, how much interest will you pay over the life of the mortgage? Solution: 500,000 25% down payment 500,000 (25%* 500,000) = \$375,000 Therefore you are borrowing \$375,000. This becomes the principal of the loan, as well as the PV of the annuity problem. i s = 6.5%/2 = 3.25% EAR = (1+.0325) 2-1 = 6.605625% i m = (1+0.06605625) 1/12- 1 = 0.005345 = 0.5345% . n = 15 years x 12 = 180 Monthly Payment using your calculator: n=180, I/Y=0.5345%, PV=-\$375,000, FV=0, COMP PMT PMT=\$3,248.95 Total payments made: 180 x \$3,248.95 = \$584,811 Less: mortgage principal: = -\$375,000 Total interest paid over 15 years: = \$209,811 Chapter 5 Key Points: Bond valuation Measuring the returns on bonds: current yield, yield to maturity, and rate of return Default risk and bond rating Corporate debt (Section 13.3) and convertible securities (Section 13.4) 3. If you purchase a bond that has three years to maturity and a 7% coupon rate (paying semi- annually) for \$980, how much will it be worth two years later if interest rates remain unchanged? Solution Step 1: Find the current YTM or i: Enter the variables into your calculator: n = 3 year x 2 periods/yr = 6 semi-annual periods remaining PV = -\$980 (dont forget the negative sign) FV = \$1000 PMT = 70/2 = \$35 every six months COMP i (or I/Y) You should get i= 3.88% x 2 = 7.76% Step 2: Find the Price at end of Year 2 (One year remaining on bond and market rates stay at 7.76% Enter the variables into your calculator: i = 7.76%/2 = 3.88% n = 1 year x 2 periods/yr = 2 semi-annual periods remaining FV = \$1000 PMT = 70/2 = \$35 every six months COMP PV You should get PV = -\$992.82 Chapter 6 Key Points Common stock valuation Stock valuation: nonconstant dividend growth Present value of growth opportunities (PVGO), growth stocks vs. income stocks Various kinds of common stocks (Sections 13.1 and 13.2) 4. A stock that is expected to pay \$3.30 in annual dividends this coming year currently trades at \$60 per share. It has an expected return of 12 percent. What might investors expect to pay for the stock one year from now?for the stock one year from now?...
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