Question 1

As a result of compounding,the effective annual rate on a bank deposit (or a loan)is always equal to or less than the nominal rate on the deposit (or loan).

Accepted Answer

A) True 
 B)False  False

Question 2

Some of the cash flows shown on a time line can be in the form of annuity payments while others can be uneven amounts.

Accepted Answer

A) True 
 B)False  True

Question 3

The greater the number of compounding periods within a year,then (1)the greater the future value of a lump sum investment at Time 0 and (2)the smaller the present value of a given lump sum to be received at some future date.

Accepted Answer

A) True 
 B)False  True

Question 4

Suppose a bank offers to lend you $10,000 for 1 year on a loan contract that calls for you to make interest payments of $170.00 at the end of each quarter and then pay off the principal amount at the end of the year.What is the effective annual rate on the loan?

Accepted Answer

A)  6.98% 
B)  6.07% 
C)  6.63% 
D)  5.79% 
E)  6.21% 
A)  6.98% 
B)  6.07% 
C)  6.63% 
D)  5.79% 
E)  6.21%

Question 5

Janice has $5,000 invested in a bank that pays 8.4% annually.How long will it take for her funds to triple?

Accepted Answer

A)  11.44 years 
B)  13.62 years 
C)  16.62 years 
D)  11.71 years 
E)  12.39 years 
A)  11.44 years 
B)  13.62 years 
C)  16.62 years 
D)  11.71 years 
E)  12.39 years

Question 6

Suppose Sally Smith plans to invest $1,000.She can earn an effective annual rate of 5% on Security A,while Security B has an effective annual rate of 12%.After 11 years,the compounded value of Security B should be more than twice the compounded value of Security A.(Ignore risk,and assume that compounding occurs annually. )

Accepted Answer

A) True 
 B)False

Question 7

You just deposited $6,500 in a bank account that pays a 4.0% nominal interest rate,compounded quarterly.If you also add another $5,000 to the account one year (4 quarters)from now and another $7,500 to the account two years (8 quarters)from now,how much will be in the account three years (12 quarters)from now?

Accepted Answer

A)  $20,543.18 
B)  $15,407.38 
C)  $17,461.70 
D)  $20,748.61 
E)  $24,857.24 
A)  $20,543.18 
B)  $15,407.38 
C)  $17,461.70 
D)  $20,748.61 
E)  $24,857.24

Question 8

You plan to invest some money in a bank account.Which of the following banks provides you with the highest effective rate of interest?

Accepted Answer

A)  Bank 1;6.1% with annual compounding. 
B)  Bank 2;6.0% with monthly compounding. 
C)  Bank 3;6.0% with annual compounding. 
D)  Bank 4;6.0% with quarterly compounding. 
E)  Bank 5;6.0% with daily (365-day)compounding. 
A)  Bank 1;6.1% with annual compounding. 
B)  Bank 2;6.0% with monthly compounding. 
C)  Bank 3;6.0% with annual compounding. 
D)  Bank 4;6.0% with quarterly compounding. 
E)  Bank 5;6.0% with daily (365-day)compounding.

Question 9

Sam was injured in an accident,and the insurance company has offered him the choice of $46,000 per year for 15 years,with the first payment being made today,or a lump sum.If a fair return is 7.5%,how large must the lump sum be to leave him as well off financially as with the annuity?

Accepted Answer

A)  $536,896.32 
B)  $475,786.17 
C)  $541,261.33 
D)  $453,961.11 
E)  $436,501.07 
A)  $536,896.32 
B)  $475,786.17 
C)  $541,261.33 
D)  $453,961.11 
E)  $436,501.07

Question 10

Your bank offers to lend you $113,200 at an 8.5% annual interest rate to start your new business.The terms require you to amortize the loan with 10 equal end-of-year payments.How much interest would you be paying in Year 2?

Accepted Answer

A)  $7,178.72 
B)  $8,076.06 
C)  $8,524.73 
D)  $8,973.40 
E)  $10,319.41 
A)  $7,178.72 
B)  $8,076.06 
C)  $8,524.73 
D)  $8,973.40 
E)  $10,319.41

Question 11

Which of the following statements is CORRECT,assuming positive interest rates and holding other things constant?

Accepted Answer

A)  The present value of a 5-year,$250 annuity due will be lower than the PV of a similar ordinary annuity. 
B)  A 30-year,$150,000 amortized mortgage will have larger monthly payments than an otherwise similar 20-year mortgage. 
C)  A bank loan's nominal interest rate will always be equal to or greater than its effective annual rate. 
D)  If an investment pays 10% interest,compounded quarterly,its effective annual rate will be greater than 10%. 
E)  Banks A and B offer the same nominal annual rate of interest,but A pays interest quarterly and B pays semiannually.Deposits in Bank B will provide the higher future value if you leave your funds on deposit. 
A)  The present value of a 5-year,$250 annuity due will be lower than the PV of a similar ordinary annuity. 
B)  A 30-year,$150,000 amortized mortgage will have larger monthly payments than an otherwise similar 20-year mortgage. 
C)  A bank loan's nominal interest rate will always be equal to or greater than its effective annual rate. 
D)  If an investment pays 10% interest,compounded quarterly,its effective annual rate will be greater than 10%. 
E)  Banks A and B offer the same nominal annual rate of interest,but A pays interest quarterly and B pays semiannually.Deposits in Bank B will provide the higher future value if you leave your funds on deposit.

Question 12

You are considering an investment in a Third World bank account that pays a nominal annual rate of 18%,compounded monthly.If you invest $5,000 at the beginning of each month,how many months would it take for your account to grow to $280,000? Round fractional months up.

Accepted Answer

A)  39 
B)  41 
C)  43 
D)  50 
E)  36 
A)  39 
B)  41 
C)  43 
D)  50 
E)  36

Question 13

Your brother's business obtained a 30-year amortized mortgage loan for $125,000 at a nominal annual rate of 7.0%,with 360 end-of-month payments.The firm can deduct the interest paid for tax purposes.What will the interest tax deduction be for Year 1?

Accepted Answer

A)  $10,800.12 
B)  $7,229.11 
C)  $8,709.78 
D)  $8,100.09 
E)  $8,012.99 
A)  $10,800.12 
B)  $7,229.11 
C)  $8,709.78 
D)  $8,100.09 
E)  $8,012.99

Question 14

A U.S.Treasury bond will pay a lump sum of $1,000 exactly 3 years from today.The nominal interest rate is 6%,semiannual compounding.Which of the following statements is CORRECT?

Accepted Answer

A)  The periodic interest rate is greater than 3%. 
B)  The periodic rate is less than 3%. 
C)  The present value would be greater if the lump sum were discounted back for more periods. 
D)  The present value of the $1,000 would be larger if interest were compounded monthly rather than semiannually. 
E)  The PV of the $1,000 lump sum has a smaller present value than the PV of a 3-year,$333.33 ordinary annuity. 
A)  The periodic interest rate is greater than 3%. 
B)  The periodic rate is less than 3%. 
C)  The present value would be greater if the lump sum were discounted back for more periods. 
D)  The present value of the $1,000 would be larger if interest were compounded monthly rather than semiannually. 
E)  The PV of the $1,000 lump sum has a smaller present value than the PV of a 3-year,$333.33 ordinary annuity.

Question 15

The present value of a future sum decreases as either the discount rate or the number of periods per year increases,other things held constant.

Accepted Answer

A) True 
 B)False

Question 16

Your bank account pays an 8% nominal rate of interest.The interest is compounded quarterly.Which of the following statements is CORRECT?

Accepted Answer

A)  The periodic rate of interest is 2% and the effective rate of interest is 4%. 
B)  The periodic rate of interest is 8% and the effective rate of interest is greater than 8%. 
C)  The periodic rate of interest is 4% and the effective rate of interest is less than 8%. 
D)  The periodic rate of interest is 2% and the effective rate of interest is greater than 8%. 
E)  The periodic rate of interest is 8% and the effective rate of interest is also 8%. 
A)  The periodic rate of interest is 2% and the effective rate of interest is 4%. 
B)  The periodic rate of interest is 8% and the effective rate of interest is greater than 8%. 
C)  The periodic rate of interest is 4% and the effective rate of interest is less than 8%. 
D)  The periodic rate of interest is 2% and the effective rate of interest is greater than 8%. 
E)  The periodic rate of interest is 8% and the effective rate of interest is also 8%.

Question 17

You are offered a chance to buy an asset for $4,500 that is expected to produce cash flows of $750 at the end of Year 1,$1,000 at the end of Year 2,$850 at the end of Year 3,and $6,250 at the end of Year 4.What rate of return would you earn if you bought this asset?

Accepted Answer

A)  20.60% 
B)  23.77% 
C)  26.72% 
D)  22.64% 
E)  17.21% 
A)  20.60% 
B)  23.77% 
C)  26.72% 
D)  22.64% 
E)  17.21%

Question 18

Suppose you deposited $27,000 in a bank account that pays 5.25% with daily compounding based on a 360-day year.How much would be in the account after 8 months,assuming each month has 30 days?

Accepted Answer

A)  $34,952.08 
B)  $30,478.21 
C)  $27,961.66 
D)  $30,198.59 
E)  $29,918.98 
A)  $34,952.08 
B)  $30,478.21 
C)  $27,961.66 
D)  $30,198.59 
E)  $29,918.98

Question 19

What is the PV of an annuity due with 5 payments of $2,900 at an interest rate of 5.5%?

Accepted Answer

A)  $14,502.08 
B)  $12,934.29 
C)  $13,064.94 
D)  $10,451.95 
E)  $11,758.44 
A)  $14,502.08 
B)  $12,934.29 
C)  $13,064.94 
D)  $10,451.95 
E)  $11,758.44

Question 20

As a result of compounding,the effective annual rate on a bank deposit (or a loan)is always equal to or greater than the nominal rate on the deposit (or loan).

Accepted Answer

A) True 
 B)False

Exam 5: Time Value of Money

As a result of compounding,the effective annual rate on a bank deposit (or a loan)is always equal to or less than the nominal rate on the deposit (or loan).

Some of the cash flows shown on a time line can be in the form of annuity payments while others can be uneven amounts.

The greater the number of compounding periods within a year,then (1)the greater the future value of a lump sum investment at Time 0 and (2)the smaller the present value of a given lump sum to be received at some future date.

Suppose a bank offers to lend you $10,000 for 1 year on a loan contract that calls for you to make interest payments of $170.00 at the end of each quarter and then pay off the principal amount at the end of the year.What is the effective annual rate on the loan?

Janice has $5,000 invested in a bank that pays 8.4% annually.How long will it take for her funds to triple?

You plan to invest some money in a bank account.Which of the following banks provides you with the highest effective rate of interest?

Sam was injured in an accident,and the insurance company has offered him the choice of $46,000 per year for 15 years,with the first payment being made today,or a lump sum.If a fair return is 7.5%,how large must the lump sum be to leave him as well off financially as with the annuity?

Your bank offers to lend you $113,200 at an 8.5% annual interest rate to start your new business.The terms require you to amortize the loan with 10 equal end-of-year payments.How much interest would you be paying in Year 2?

Which of the following statements is CORRECT,assuming positive interest rates and holding other things constant?

You are considering an investment in a Third World bank account that pays a nominal annual rate of 18%,compounded monthly.If you invest $5,000 at the beginning of each month,how many months would it take for your account to grow to $280,000? Round fractional months up.

Your brother's business obtained a 30-year amortized mortgage loan for $125,000 at a nominal annual rate of 7.0%,with 360 end-of-month payments.The firm can deduct the interest paid for tax purposes.What will the interest tax deduction be for Year 1?

A U.S.Treasury bond will pay a lump sum of $1,000 exactly 3 years from today.The nominal interest rate is 6%,semiannual compounding.Which of the following statements is CORRECT?

The present value of a future sum decreases as either the discount rate or the number of periods per year increases,other things held constant.

Your bank account pays an 8% nominal rate of interest.The interest is compounded quarterly.Which of the following statements is CORRECT?

You are offered a chance to buy an asset for $4,500 that is expected to produce cash flows of $750 at the end of Year 1,$1,000 at the end of Year 2,$850 at the end of Year 3,and $6,250 at the end of Year 4.What rate of return would you earn if you bought this asset?

Suppose you deposited $27,000 in a bank account that pays 5.25% with daily compounding based on a 360-day year.How much would be in the account after 8 months,assuming each month has 30 days?

What is the PV of an annuity due with 5 payments of $2,900 at an interest rate of 5.5%?

As a result of compounding,the effective annual rate on a bank deposit (or a loan)is always equal to or greater than the nominal rate on the deposit (or loan).

An Overview of Financial Management

Financial Markets and Institutions

Financial Statements,cash Flow,and Taxes

Analysis of Financial Statements

Interest Rates

Bonds and Their Valuation

Risk and Rates of Return

Stocks and Their Valuation

The Cost of Capital

The Basics of Capital Budgeting

Cash Flow Estimation and Risk Analysis

Capital Structure and Leverage

Distribution to Shareholders: Dividends and Share Repurchases

Working Capital Management

Financial Planning and Forecasting

Multinational Financial Management

Interest Rates and Compounding

Zero Coupon Bonds and Taxation

Taxes, Bankruptcy Act, and Financial Management

Capital Budgeting and Risk Analysis

Financial Analysis and Capital Structure Decision Making

Comparing Two Mutually Exclusive Projects: NPV and Equivalent Annual Annuity Analysis

Financial Leverage and Operating Leverage

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