Question

1. Marty’s investments earned a before tax rate of return of 9% in a year when inflation was 2%. He and his financial planner had decided he needed to earn 6.5% real annually to reach his retirement goals.

a. Marty can relax – he has met his goal for the year.

b. Marty can relax – he has exceeded his goal for the year.

c. Marty had better start reviewing his options – he has failed to meet his goal for the

year.

d. Marty should panic – he has failed miserably to meet his goal for the year.

2. The real rate of return in Venezuela was expected to be 4% and inflation there was 27.1% in 2009. What was the nominal rate in that nation?

a. 31.100%

b. 27.100%

c. 28.650%

d. 32.184%

3. Jacob, a university student in finance, has an unpaid credit card balance of $1,500. His credit card company charges 18% compounded daily on unpaid balances. Assuming he chooses not to pay his credit card balance for one year, how much will he owe in one year’s time.

a. $1,770

b. $1,796

c. $2,100

d. None of the above.

4.Ashton and Mila decide that they will need to have $1,000,000 a year when Mila retire from her job as a movie star. They approach you, their financial planner, and ask how much they will need to have saved in real dollars by retirement. Mila estimates that she will live about 40 years after she retires. She plans to retire in 10 years. She estimates that she will earn a 5% real rate of return on her investments savings during retirement. How much will she need by retirement?

a. $18,017,041

b. $17,159,086

c. $40,000,000

d. $11,060,900

Answer 1

1) given nominal rate of return =9%

Inflation rate =2%

Real rate of return is calculated as =[(1+nominal rate of return) /(1+ inflation rate) -1]*100

=[(1+9%)/(1+2%)-1]*100=[(1.09/1.02)-1]*100

=[1.06863-1]*100=6.863%

Requured real rate of return is 6.5%

Hence option b is correct thats is marty can relax as he has exceeded his goal for the year.

2) nominal rate of return is given as =[(1+real rate) *(1+inflation rate) - 1]*100

=[(1+4%)*(1+27.1%)-1]*100

=[1.04*1.271-1]*100

=32.184%

Hence answer is option d i.e 32.184%

3) given interest rate = 18%per annum or 18%/365=0.04932%

Outstanding balance today =1500

Closing balance after year end is given as =opening balance *(1+ interest rate) ^ time

=1500*(1+0.04932%)^365

=1500*(1.0004932)^365

=1500*1.19719

=1796

hence answer is option b 1796

D) at time = 10 years

Annuity amount required =1000000 at the beginning of year 11

Time till which annuity will continue =40 years

Real rate of return =5%

Hence at time =10 years present value of annuity =(1000000*(1.05)^0+[1000000*(1.05)^1+......+1000000*(1.05)^39]

=1000000+1000000* present value of annuity factor at 5% for 39 years

=1000000+1000000*17.017

=1000000+17017

=18017000

Hence time =10 years the present value of annuity will be =18017000

At time = 0 years i.e. Today The present value of annuity =

=18017000/(1+5%)^10

=18017000/1.62889

=11060906

Hence the answer is option d i.e 11060900 (difference is due to approximation)

Option d is the answer