In: Finance
You are considering an investment in a mutual fund with a 6% load and expense ratio of 0.5%. You can invest instead in a bank CD paying 2% interest.
a. If you plan to invest for 2 years, what annual rate of return must the fund portfolio earn for you to be better off in the fund than in the CD? Assume annual compounding of returns. (Do not round intermediate calculations. Round your answer to 2 decimal places.)
b. What annual rate of return must the fund portfolio earn if you plan to invest for 7 years to be better off in the fund than in the CD? (Do not round intermediate calculations. Round your answer to 2 decimal places.)
c. Now suppose that instead of a front-end load the fund assesses a 12b-1 fee of .75% per year. What annual rate of return must the fund portfolio earn for you to be better off in the fund than in the CD? (Do not round intermediate calculations. Round your answer to 2 decimal places.)
Ans a) | Each dollar in mutual fund will earn over the 2 year period | |||||
1*(1-6%)*(1+r%-0.5%)^2 | 1.02^2 | |||||
Solving the equation we have | ||||||
0.94*(1+r%-0.5%)^2 | 1.0404 | |||||
(1+r%-0.5%)^2 | 1.106809 | |||||
(1+r%-0.5%) | 1.05205 | |||||
r= | 5.70% | |||||
Ans = | 5.70% | |||||
Ans b) | Each dollar in mutual fund will earn over the 7 year period | |||||
1*(1-6%)*(1+r%-0.5%)^7 | 1.02^7 | |||||
Solving the equation we have | ||||||
0.94*(1+r%-0.5%)^7 | 1.148686 | |||||
(1+r%-0.5%)^7 | 1.222006 | |||||
(1+r%-0.5%) | 1.029056 | |||||
r= | 3.41% | |||||
Therefore return must be greater than | 3.41% | |||||
ans = | 3.41% | |||||
Ans b) | Each dollar in mutual fund will earn over the 7 year period | |||||
1*(1+r%-0.75%)^2 | 1.02^2 | |||||
Solving the equation we have | ||||||
1*(1+r%-0.75%)^2 | 1.0404 | |||||
(1+r%-0.75%)^2 | 1.0404 | |||||
(1+r%-0.75%)^2 | 1.02 | |||||
r= | 2.75% | |||||
Ans = | 2.75% | |||||
Therefore return must be greater than | 2.75% | |||||
ans = | 2.75% |