Question

Live Forever Life Insurance Co. is selling a perpetuity contract that pays $1,650 monthly. The contract currently sells for $118,000.

a.	What is the monthly return on this investment vehicle?(Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
b.	What is the APR? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
c.	What is the effective annual return? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

  

Answer 1

The solution:

In order to solve the problems, the following data is provided.

Present Value PV =118,000

Cash flow C =1650

(a)

Perpetuity equation, PV = C/r, where, r is return

118000 = 1650 / r

r = 1650/118000 = 0.01398 = 1.398 = 1.40%

(b)

APR = 1.40 * 12 = 16.80%

(c)

Effective Annual Return = [1+APR/m]^m – 1 = [1 + 0.1680/12]¹² – 1 = [1 + 0.014]¹² – 1 = [1.014]¹² – 1 = 1.181559 – 1 = 0.1816 = 18.16%