Assume that you are nearing graduation and have applied for a job with a local bank. The bank’s evaluation process requires you to take an examination that covers several financial analysis techniques.
1. What is the present value of the following uneven cash flow stream −$50, $100, $75, and $50 at the end of Years 0 through 3? The appropriate interest rate is 10%, compounded annually.
2. We sometimes need to find out how long it will take a sum of money (or something else, such as earnings, population, or prices) to grow to some specified amount. For example, if a company’s sales are growing at a rate of 20% per year, how long will it take sales to double?
3. Will the future value be larger or smaller if we compound an initial amount more often than annually—for example, every 6 months, or semiannually—holding the stated interest rate constant? Why?
4. What is the effective annual rate (EAR or EFF%) for a nominal rate of 12%, compounded semiannually? Compounded quarterly? Compounded monthly? Compounded daily?
5. Suppose that on January 1 you deposit $100 in an account that pays a nominal (or quoted) interest rate of 11.33463%, with interest added (compounded) daily. How much will you have in your account on October 1, or 9 months later?
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3. Yes the future value will be larger if we compound amounts more often than annually. This is due to compound interest. As you compound interest to an amount then the larger total amount will gain more interest each time it is compounded....
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