Question

earl Russell expects to receive $1000 at the end of six years. What is the present value of this amount assuming a 4% annual compound interest rate.

A. $899

B. $832

C. $790

D. $760

Answer 1

the correct answer is option C that is 790 whcih is explained and calculated as below.

When interest is given on interest this is called compound interest. In case of compound interest the interest that is accrued as of date gets added to the principal amount and then interest is calculated. Now this time the interest will be calculated on the principal amount + the interest that was accrued as of date.

We can calculate the compound interest by using the below formula

Here A= the amount that will be given at the end of the time period for which the amount was invested

P= Principal amount that is invested, this does not includes the interest amount

R= rate of interest that is given[in decimal]

N= Numbers of times interest is compounded in a year

T= Time period for which the amount is invested

Please note that the amount that will be for “nt” is to be in power of bracket and not to be treated as to be multiplied.

If we take 5*2 where 2 is in power of 5 than we get 25 not 10

This is because when some value is in power

We calculate as

5*5 not 5*2

So in this case

We have

A=1000

P= this is to be calculated or this is to be find out

R=4%

N=1

T=6years

Please note that rate of interest is to be mentioned in formula after dividing it by 100

So the formula will be as below

1000=P(1+.04/1)*1*6

1000=P(1.04)*6

If we solve the formula we get

1000/1.236=P

Hence P=790

Hence 790 is the amount that is to be invested.