FINANCIAL MATHEMATICS

2 HOURS

Answer the following questions, justifying your answers.

1. Mr Hill wants to invest 10,000 euros for three years at 7% per year. How much will
he receive at the end of this placement?
Inputs:

2. You are considering investing in a savings bond that will pay $15,000 in 10 years.
If the competitive market interest rate is fixed at 6% per year, what is the bond worth
today?
3. Suppose you are offered an investment that pays $10,000 in five years. If you expect
to earn a 10% return, what is the value of this investment today?
4. We plan to save $1,000 today and at the end of each of the next two years. At a fixed
10% interest rate, how much will we have in the bank three years from today?
5. What is the future value in three years of the following cash flows if the
compounding rate is 5%?

6. You have been offered the following investment opportunity: if you invest $1,000
today, you will receive $500 at the end of each of the next three years. If you could
otherwise earn 10% per year on your money, should you undertake the investment
opportunity?
7. Would you be willing to pay $5,000 for the following stream of cash flows if the
discount rate is 7%?

8. You want to endow an annual M B A graduation party at your alma mater. You want
the event to be a memorable one, so you budget $30,000 per year forever for the
party. If the university earns 8% per year on its investments, and if the first party is in
one year’s time, how much will you need to donate to endow the party?
9. You want to endow a chair for a female professor of finance at your alma mater.
You’d like to attract a prestigious faculty member, so you’d like the endowment to
add $100,000 per year to the faculty member’s resources (salary, travel, databases,
etc.). If you expect to earn a rate of return of 4% annually on the endowment, how
much will you need to donate to fund the chair?
10. You are the lucky winner of the $30 million state lottery. You can take your prize
money either as (a) 30 payments of $1 million per year (starting today), or (b) $15
million paid today. If the interest rate is 8%, which option should you take?
11. Ellen is 35 years old, and she has decided it is time to plan seriously for her
retirement. At the end of each year until she is 65, she will save $10,000 in a
retirement account. If the account earns 10% per year, how much will Ellen have
saved at age 65?
12. You want to begin saving for your retirement. You plan to contribute $12,000 to the
account at the end of this year. You anticipate you will be able to increase your
annual contributions by 3% each year for the next 45 years. If your expected annual
return is 8%, how much do you expect to have in your retirement account when you
retire in 45 years?
13. You are about to purchase a new car and have two options to pay for it. You can pay
$20,000 in cash immediately, or you can get a loan that requires you to pay $500
each month for the next 48 months (four years). If the monthly interest rate you earn
on your cash is 0.5%, which option should you take?
14. Your biotech firm plans to buy a new D N A sequencer for $500,000. the seller
requires that you pay 20% of the purchase price as a down payments, but is willing to
finance the remainder by offering a 48-month loan with equal monthly payments and
an interest rate of 0.5% per month. What is the monthly loan payment?
15. You have just graduated and landed your dream job with a nice salary. To reward
yourself, you decide to purchase a luxury automobile at a cost of $60,000.
The manufacturer is offering a special deal on financing: $0 down and 60 monthly
payments with an annual interest rate of 3%. What are the monthly payments?
16. You are looking at buying your first house and you are planning on financing
$300,000.
30-year mortgage rates are at 3% but you are concerned they may rise before you
close on the mortgage.
If rates go up to 5%, how much higher will your monthly payment be?
17. Jessica has just graduated with her MBA. Rather than take the job she was offered at
a prestigious investment bank—DEXIA—she has decided to go into business for
herself. She believes that her business will require an initial investment of $1 million.
after that, it will generate a cash flow of $100,000 at the end of one year, and this
amount will grow by 4% per year thereafter. What is the I R R of this investment
opportunity?
18. DEXIA was so impressed with Jessica that it has decided to fund her business. In
return for providing the initial capital of $1 million, Jessica has agreed to pay them
$125,000 at the end of each year for the next 30 years. What is the internal rate of
return on DEXIA’s investment in Jessica’s company, assuming she fulfills her
commitment?
19. You want to buy a new production machine for your company. The investment is
1000k€. You model the cash flows for the next four years and you obtain
respectively: 250 K€ the first year, 290 K€ the second year, 450 K€ the third and
fourth year.
The discount rate is 10% per year.
You need to calculate the payback period for this investment. Expand on each step of
your reasoning.