Suppose that Ray Allen, a basketball player for the Seattle Supersonics, will become a free agent at the end of this NBA season.Suppose that Allen is considering two possible contracts from different teams.Note that the salaries are paid at the end of EACH year. $\begin{array}{lll} & \text { Contract \#1 (Seattle) } & \text { Contract \#2 (Portland) } \\ \text { Signing bonus (paid today) } & \$ 1 \text { million } & \$ 1 \text { million } \\ \text { First-year salary } & \$ 2 \text { million } & \$ 4 \text { million } \\ \text { Second-year salary } & \$ 4 \text { million } & \$ 4 \text { million } \\ \text { Third-year salary } & \$ 5 \text { million } & \$ 3 \text { million } \end{array}$ The interest rate is 10%.Based on this information, which of the following is true?

A) Allen should take the Seattle contract because it has a higher present value B) Allen should take the Portland contract because it has a higher present value C) Allen is indifferent between the two contracts because they are both worth $12 million D) Allen is indifferent between the two contracts because they are both worth $10.9 million A) Allen should take the Seattle contract because it has a higher present value B) Allen should take the Portland contract because it has a higher present value C) Allen is indifferent between the two contracts because they are both worth $12 million D) Allen is indifferent between the two contracts because they are both worth $10.9 million A

Exam 4: Future Value, Present Value, and Interest Rates

Suppose that Ray Allen, a basketball player for the Seattle Supersonics, will become a free agent at the end of this NBA season.Suppose that Allen is considering two possible contracts from different teams.Note that the salaries are paid at the end of EACH year. Contract \#1 (Seattle) Contract \#2 (Portland) Signing bonus (paid today) \ 1 million \ 1 million First-year salary \ 2 million \ 4 million Second-year salary \ 4 million \ 4 million Third-year salary \ 5 million \ 3 million The interest rate is 10%.Based on this information, which of the following is true?

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Question 1

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Explain why, if real interest rates are so important, we see most interest rates quoted in nominal terms.

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Question 2

Correct Answer:

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It is almost impossible to quote real interest rates ex ante.For any given nominal interest rate, the real interest rate is the nominal interest rate less the rate of inflation.The problem is no one knows what the rate of inflation will be exactly.As a result it is easier to quote nominal interest rates.

You win your state lottery.The lottery officials offer you the following options: you can accept annual payments of $50,000 for 20 years or receive an upfront payment of $700,000.Ignoring issues like mortality tables, taxes, etc., what market interest rate would make it more attractive to take the upfront payment?

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Question 3

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Using a financial calculator or a spreadsheet we can equate the $700,000 to the sum of the present value flow of receiving $50,000 a year for the next 20 years, and the internal rate of return is 3.67%.If you are confident that you can earn an average annual return greater than 3.67% a year over the next 20 years, the upfront payment may be the option to select.

From the Fisher equation we see that the nominal interest rate and expected inflation have:

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Question 4

Which of the following statements is most correct?

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Question 5

The future value of $100 that earns 10% annually for n years is best expressed by which of the following?

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Question 6

A monthly growth rate of 0.6% is an annual growth rate of:

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Question 7

A bond offers a $50 coupon, has a face value of $1,000, and has 10 years to maturity.If the interest rate is 4.0% what is the value of this bond?

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Question 8

Explain why an investor cannot simply compare the size of promised payments from different investments, even if the interest rates and other risk factors are the same.

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Question 9

Suppose Mary receives an $8,000 loan from First National Bank.Mary repays $8,480 to First National Bank at the end of one year.Assuming the simple calculation of interest, the interest rate on Mary's loan was:

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Question 10

Which formula below best expresses the real interest rate, (r)?

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Question 11

The interest rate used to discount the promised payment from a bond:

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Question 12

An investment carrying a current cost of $120,000 is going to generate $50,000 of revenue for each of the next three years.To calculate the internal rate of return we need to:

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Question 13

What is the present value of $100 promised one year from now at 10% annual interest?

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Question 14

The future value of $200 that is left in account earning 6.5% interest for three years is best expressed by which of the following?

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Question 15

The price of a coupon bond is determined by:

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Question 16

According to the rule of 72:

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Question 17

A mortgage, where the monthly payments are the same for the duration of the loan, is an example of:

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Question 18

Suppose a two-year coupon bond has payments of $40 and a face value of $800.The interest rate is 8%.Compute the present value of the coupon payments and the principal payment of the bond.What is the price of this bond?

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Question 19

How might the behavior of professional investment managers prior to the financial crisis of 2007-2009 contributed to the depth of the plunge of corporate and mortgage security prices during the crisis?

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Question 20

Showing 1 - 20 of 123

Exam 4: Future Value, Present Value, and Interest Rates

Explain why, if real interest rates are so important, we see most interest rates quoted in nominal terms.

From the Fisher equation we see that the nominal interest rate and expected inflation have:

Which of the following statements is most correct?

The future value of $100 that earns 10% annually for n years is best expressed by which of the following?

A monthly growth rate of 0.6% is an annual growth rate of:

A bond offers a $50 coupon, has a face value of $1,000, and has 10 years to maturity.If the interest rate is 4.0% what is the value of this bond?

Explain why an investor cannot simply compare the size of promised payments from different investments, even if the interest rates and other risk factors are the same.

Suppose Mary receives an $8,000 loan from First National Bank.Mary repays $8,480 to First National Bank at the end of one year.Assuming the simple calculation of interest, the interest rate on Mary's loan was:

Which formula below best expresses the real interest rate, (r)?

The interest rate used to discount the promised payment from a bond:

An investment carrying a current cost of $120,000 is going to generate $50,000 of revenue for each of the next three years.To calculate the internal rate of return we need to:

What is the present value of $100 promised one year from now at 10% annual interest?

The future value of $200 that is left in account earning 6.5% interest for three years is best expressed by which of the following?

The price of a coupon bond is determined by:

According to the rule of 72:

A mortgage, where the monthly payments are the same for the duration of the loan, is an example of:

Suppose a two-year coupon bond has payments of $40 and a face value of $800.The interest rate is 8%.Compute the present value of the coupon payments and the principal payment of the bond.What is the price of this bond?

How might the behavior of professional investment managers prior to the financial crisis of 2007-2009 contributed to the depth of the plunge of corporate and mortgage security prices during the crisis?

An Introduction to Money and the Financial System

Money and the Payments System

Financial Instruments, Financial Markets, and Financial Institutions

Understanding Risk

Bonds, Bond Prices, and the Determination of Interest Rates

The Risk and Term Structure of Interest Rates

Stocks, Stock Markets, and Market Efficiency

Derivatives: Futures, Options, and Swaps

Foreign Exchange

The Economics of Financial Intermediation

Depository Institutions: Banks and Bank Management

Financial Industry Structure

Regulating the Financial System

Central Banks in the World Today

The Structure of Central Banks: the Federal Reserve and the European Central Bank

The Central Bank Balance Sheet and the Money Supply Process

Monetary Policy: Stabilizing the Domestic Economy

Exchange-Rate Policy and the Central Bank

Money Growth, Money Demand, and Modern Monetary Policy

Output, Inflation, and Monetary Policy

Understanding Business Cycle Fluctuations

Modern Monetary Policy and the Challenges Facing Central Bankers

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