Question 1

The interest rate will be 10% for one more year, but a year from now, it will fall to 5% and stay at 5% forever.What is the market value of an investment that is sure to pay $220 a year forever, starting two years from today?

Accepted Answer

A) $4,000 
B) $4,400 
C) $2,000 
D) $2,200 
E) $5,000

Question 2

The interest rate is 10%.A certain piece of land can be used for a parking lot, in which case there are no construction costs and it will yield a net return of $5,000 per year forever starting one year from now.Or it can have a house built on it.Building a house would cost $50,000 now.If a house is built on the lot, it will yield a stream of net income equal to $12,000 per year starting one year from now.No other uses are contemplated.The theory of asset markets predicts that the lot will sell for

Accepted Answer

A) $120,000 and a house will be built on it. 
B) $50,000 and it will be used as a parking lot. 
C) $70,000 and a house will be built on it. 
D) $13,200 and a house will be built on it. 
E) $80,000 and it will be used as a parking lot.

Question 3

The interest rate is 9% and there is no inflation.A bond is available that can be redeemed either after one year or after two years.If it is redeemed after one year, the investor gets $109.If it is redeemed after two years, the investor gets $115.54.The investor gets no other payments than what she receives when she redeems the bond.In equilibrium, investors will be willing to pay more than $100 for this bond.

Accepted Answer

A) True 
 B)False

Question 4

Ashley, from your workbook, has discovered another wine, wine D.Wine drinkers are willing to pay 45 dollars to drink it right now.The amount that wine drinkers are willing to pay will rise by 15 dollars each year that the wine ages.The interest rate is 10%.How much would Ashley be willing to pay for the wine if he buys it as an investment? (Pick the closest answer.)

Accepted Answer

A) 76 dollars 
B) 45 dollars 
C) 150 dollars 
D) 495 dollars 
E) 71 dollars

Question 5

You buy a painting for $1,280.Its market value will rise by $80 per year for the next 30 years.It is worth $80 a year to you to have it hanging on the wall.The interest rate is 10%.In how many years will you sell it?

Accepted Answer

A) 30 
B) Immediately 
C) 8 
D) 4 
E) 5

Question 6

A bond has a face value of 5,000 dollars.It will pay 500 dollars in interest at the end of every year for the next 45 years.At the time of the last interest payment, 45 years from now, the company that issued the bond will redeem the bond at face value.That is, the company will buy back the bond from its owner at a price equal to the face value of the bond.If the interest rate is 10% and is expected to remain at 10%, how much would a rational investor pay for this bond right now?

Accepted Answer

A) 5,000 dollars 
B) 27,500 dollars 
C) 22,500 dollars 
D) More than any of the above amounts 
E) Less than any of the above amounts

Question 7

The interest rate is 10% and is expected to stay constant at that level forever.The present discounted value of $50,000 a year forever starting today is

Accepted Answer

A) $500,000. 
B) $550,000. 
C) $ infinity. 
D) $1 million. 
E) $45,454.45.

Question 8

The interest rate is 10% and will remain 10% forever.Suppose that you do not drink wine but are interested in buying it for investment purposes.How much would you be willing to pay for each of the following?
a.A bottle of wine that will be worth $22 a year from now and will then go bad and be worthless.
b.A bottle of wine that will be worth $22 a year from now and will rise in value by $1 a year forever? Explain your answer.

Accepted Answer

The answer of The interest rate is 10% and will...

Question 9

The interest rate is 10% and there is no inflation.A bond is available that can be redeemed either after one year or after two years.If it is redeemed after one year, the investor gets $110.If it is redeemed after two years, the investor gets $117.70.The investor gets no other payments than what she receives when she redeems the bond.In equilibrium, investors will be willing to pay more than $100 for this bond.

Accepted Answer

A) True 
 B)False

Question 10

Ashley, from your workbook, has discovered another wine, wine D.Wine drinkers are willing to pay 40 dollars to drink it right now.The amount that wine drinkers are willing to pay will rise by 20 dollars each year that the wine ages.The interest rate is 10%.How much would Ashley be willing to pay for the wine if he buys it as an investment? (Pick the closest answer.)

Accepted Answer

A) 93 dollars 
B) 40 dollars 
C) 200 dollars 
D) 440 dollars 
E) 71 dollars

Question 11

A zero coupon bond is a bond that pays no return until it comes due and then pays the holder of the bond its face value.Suppose that a $2,000 zero coupon bond will come due on January 1, 2020.If the interest rate is 5% and will remain 5% forever, what will this bond be worth on January 1, 2005?

Accepted Answer

A) $2,000/0.5 
B) $2,000/0.0515 
C) $2,000 + 2,000/15 
D) $2,000/1.0515 
E) None of the above.

Question 12

If the interest rate is r and will remain r forever, then a bond that will pay 95 dollars a year forever, starting one year from now, is worth how much today?

Accepted Answer

A) 95/(1 + r)dollars. 
B) 95(1 + r)dollars. 
C) 95/r dollars. 
D) 95/(1 + r + r2 ........+ rn +........)dollars. 
E) None of the above.

Question 13

Today is January 1.The interest rate is 8% and investors are convinced that it will stay at 8% for the next 10 years.A corporate bond comes on the market that for the next 7 years will pay $160 on December 31 to whoever owns the bond on that date.On January 1, 7 years from today, the issuer of the bond will redeem the bond by buying it back from the bondholder for $2,000.What should this bond sell for?

Accepted Answer

A) $3,120 
B) $2,160 
C) $1,600 
D) $2,000 
E) $2,780

Question 14

The price of an antique is expected to rise by 8% during the next year.The interest rate is 12%.You are thinking of buying an antique and selling it a year from now.You would be willing to pay a total of 800 dollars for the pleasure of owning the antique for a year.How much would you be willing to pay to buy this antique?

Accepted Answer

A) 6,666.67 dollars 
B) 20,000 dollars 
C) 800 dollars 
D) 16,800 dollars 
E) 8,000 dollars

Question 15

According to the theory of asset markets, if the interest rate is constant, then the competitive market price of a bottle of wine will rise at a constant rate per year until it is consumed, even if the amount that wine drinkers are willing to pay for it does not rise at a constant rate.

Accepted Answer

A) True 
 B)False

Question 16

Shiver's annual fuel bill for home heating is 900 dollars per year.He considers three alternative plans for insulating his house.Plan A would reduce his annual fuel bill by 15%, plan B would reduce it by 20%, and plan C would eliminate his need for heating fuel altogether.The plan A insulation job would cost Shivers 900 dollars, plan B would cost him 1,600 dollars, and plan C would cost him 9,900 dollars.If the interest rate is 10% and his house and the insulation job last forever, which plan is the best for Shivers?

Accepted Answer

A) Plans A and B are equally good. 
B) Plan B. 
C) Plan C. 
D) Plan A. 
E) He is best off using none of the plans.

Question 17

A consumer who can borrow and lend at the same interest rate should prefer an endowment with a higher present value to an endowment with a lower present value, no matter how he plans to allocate consumption over the course of his life.

Accepted Answer

A) True 
 B)False

Question 18

Art Dreck's paintings are terribly unpopular now.In fact nobody would pay a dime to have one of his paintings on the wall now.But experts believe that 10 years from now, there will be a craze for Dreck paintings.The craze will last for 2 years and then nobody will ever want to see a Dreck again.During this 2-year period, people will be willing to pay $1,100 a year to have an original Dreck on the wall.The interest rate is r.If the experts' belief is widely held among investors, today's market value of Dreck should be about

Accepted Answer

A) 2,200/r. 
B) 2,200/(1+ r). 
C) 1,100(1 + r)10 + 1,100(1 + r)11. 
D) 1,100/(1 + r)10 + 1,100/(1 +r)11. 
E) 1,100r + 1,100r2.

Question 19

According to a recent story in the New York Times, the South African gold strike has been costing South African mining companies about $7.5 million per day.Assuming that this number is the value of the gold that was not mined because of the strike, minus the labor costs (and other operating costs)that are saved by shutting down the mines, what is wrong with this calculation?

Accepted Answer

The answer of According to a recent story in the...

Question 20

Vincent Smudge's paintings are unappreciated now.Nobody is willing to pay anything to have them on the walls.In 5 years Smudge's work will gain enduring popularity.People will suddenly be willing to pay $1,000 a year to have an original Smudge on their walls and will continue to be willing to do so ever after.If investors realize that this is the case and if the interest rate is and always will be r, a painting by Smudge will currently be worth about

Accepted Answer

A) $(1,000/r)[1/(1 + r)4]. 
B) $1,000/r - 5,000/r. 
C) $1,000(1 + r)5. 
D) $1,000(1/r)5. 
E) $200/r.

Exam 10: Asset Markets-Part A

The interest rate will be 10% for one more year, but a year from now, it will fall to 5% and stay at 5% forever.What is the market value of an investment that is sure to pay $220 a year forever, starting two years from today?

You buy a painting for $1,280.Its market value will rise by $80 per year for the next 30 years.It is worth $80 a year to you to have it hanging on the wall.The interest rate is 10%.In how many years will you sell it?

The interest rate is 10% and is expected to stay constant at that level forever.The present discounted value of $50,000 a year forever starting today is

A zero coupon bond is a bond that pays no return until it comes due and then pays the holder of the bond its face value.Suppose that a $2,000 zero coupon bond will come due on January 1, 2020.If the interest rate is 5% and will remain 5% forever, what will this bond be worth on January 1, 2005?

If the interest rate is r and will remain r forever, then a bond that will pay 95 dollars a year forever, starting one year from now, is worth how much today?

According to the theory of asset markets, if the interest rate is constant, then the competitive market price of a bottle of wine will rise at a constant rate per year until it is consumed, even if the amount that wine drinkers are willing to pay for it does not rise at a constant rate.

A consumer who can borrow and lend at the same interest rate should prefer an endowment with a higher present value to an endowment with a lower present value, no matter how he plans to allocate consumption over the course of his life.