Question

A) You invest RM10,000 today into retirement account. You expect to earn 11%

compounded monthly, on your money for the next 25 years. After that, you

want to be more conservative, so only expect to earn 7%, compounded

semiannually. How much money will you have in your account when you

retire 40 years from now, assuming that this is the only deposit you make into account?

B) Assume that you just won the Open Golf Championship. Your prize can be

taken either in the form of RM50,000 at the end of each of the next 25 years

(That is RM1,000,000 over 25 years) or as single amount of RM500,000 paid immediately. If you expect to be able to earn 5% annually on your investments over the next 25 years, ignoring taxes and other considerations, which alternative should you take? Why? (show your calculation)

Answer 1

Solution A
	Investment	10000
	Interest	11%
	Compoundig interval	Monthly
	Amount after 25 years	10000*(1+11%/12)^(25*12)
	Amount after 25 years	154,478.89
	For next 15 years
	Interest	7%
	Compoundig interval	Semi-annual
	Amount after next 15 years	154478.89*(1+7%/2)^(15*2)
	Amount after next 15 or total 40 years	433,590.36
Solution B
	PV of annuity
	P = PMT x (((1-(1 + r) ^- n)) / r)
	Where:
	P = the present value of an annuity stream	P
	PMT = the dollar amount of each annuity payment	50,000.00
	r = the effective interest rate (also known as the discount rate)	5%
	n = the number of periods in which payments will be made	25
	PV of annual payments=	PMT x (((1-(1 + r) ^- n)) / r)
	PV of annual payments=	50000*(((1-(1+5%) ^- 25)) / 5%)
	PV of annual payments=	704,697.23
	Immediate payment option=	500,000.00
	Since, annual payment option provides higher present value, it is suggested to accept the annual payment plan.