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Chapter 17: Q2. (page 369)

It is a fact that (1 + 0.12)3 = 1.40. Knowing that to be true, what is the present value of \(140 received in three years if the annual interest rate is 12 percent?

  1. \)1.40

  2. \(12

  3. \)100

  4. $112

Short Answer

Expert verified

Option (c) $100

Step by step solution

01

Step 1. Meaning and formula for the present value

The present value method says that the current value of the amount received in the future is the ratio of the future amount to the compound interest gained over the years.

X0=Xt1+it

X0 is the present value of the future amount, i is the interest rate, t is the time, and Xt is the amount received after t years.

02

Step 2. Calculations for the answer

Given that $140 will be received after 3 years along with the compound interest charged by 12% annually, the present value of $140 is:

X0=1401+0.123=1401.40=100

Hence, the answer is $100.

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Most popular questions from this chapter

If an investment has 35 percent more non-diversifiable risk than the market portfolio, its beta will be:

  1. 35

  2. 1.35

  3. 0.35

Asset X is expected to deliver 3 future payments. They have present values of, respectively, \(1,000, \)2,000, and \(7,000. Asset Y is expected to deliver 10 future payments, each having a present value of \)1,000. Which of the following statements correctly describes the relationship between the current price of Asset X and the current price of Asset Y?

  1. Asset X and Asset Y should have the same current price.

  2. Asset X should have a higher current price than Asset Y.

  3. Asset X should have a lower current price than Asset Y.

Why is it reasonable to ignore diversifiable risk and care only about non-diversifiable risk? What about investors who put all their money into only a single risky stock? Can they properly ignore diversifiable risk?

If the Fed increases interest rates, the SML will shift _______ and asset prices will _______.

  1. down; rise

  2. down; fall

  3. up; rise

  4. up; fall

If we compare the betas of various investment opportunities, why do the assets that have higher betas also have higher average expected rates of return?
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