1. Assume the annual interest rate is 8%. Identify the calculation you would use
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Question
1. Assume the annual interest rate is 8%. Identify the calculation you would use to determine how much you would be willing to pay today in order to receive $150 one year from today (rounded to the nearest dollar). Perform the calculation.
2. You expect a share of EconNews.Com to sell for $65 one year from today. What price would you be willing to pay (rounded to the nearest dollar) for the stock today if you require an 8% return?
3. A 10% coupon bond pays the purchaser the principle value of $1000 and a plus a $40 coupon payment when it matures one year from today. In parts A, B, and C identify and perform the appropriate calculation. A. If you paid $1000 for the bond today and held it until maturity what would be the interest rate on bond (what rate of interest would you earn)? B. If you paid $1020 for the bond today and held it until maturity what would be the interest rate on bond (what rate of interest would you earn)? C. If you required a 5% rate of interest on the bond, how much would you be willing to pay for the bond today?
4. If the Democrats win the upcoming election, then the value of FIRM D shares will increase 12% otherwise they will increase 0%. There is a seventy percent chance that the Democrats will win. If the Republicans win the upcoming election, then the value of FIRM R shares will increase 8% otherwise they will increase 0%. There is a thirty percent chance that the Republicans will win. You are considering 3 investment strategies: (1) invest $2000 in FIRM D shares (2) invest $2000 in FIRM R shares (3) invest $1000 in FIRM D shares and $1000 in FIRM R shares. Identify and perform the calculation you would use to determine the Average Expected Share Value for each investment strategy. Clearly label these strategies 1, 2, 3 so I can easily follow your work. Which strategy do you prefer? Explain.
5. A commercial bank has deposits equal to $500 million, reserves equal to $50 million, loans equal to $250 million, and securities equal to $200 million. Illustrate the banks balance sheet as shown in class on October 1.
6. In twenty-five words or less, explain why banks hold reserves.
7. Suppose the economy is experiencing a dramatic decline in GDP and employment. Why might a bank want to hold more treasury bonds and fewer loans on its balance sheet?
8. Identify and carefully describe four functions of financial intermediaries. Number these functions 1, 2, 3, 4 so I can easily follow your descriptions.
Explanation / Answer
1 Interest Rate 8% Amount Recd 1 yr from Today $150 Present Value $138.89 2 Interest Rate 8% Share to sell 1 year from Today $65 Present Value $60.19 3A Amount Paid for Bond $1,000 Coupon Payment on Maturity $40 Interest Rate we will Earn 4% 3B Amount Paid for Bond $1,020 Coupon Payment on Maturity $40 Interest Rate we will Earn 3.92% 3C Required Intt Rate 5% Principal Recd on Matrity $1,000 Interest Recd on Maturity $40 Total Amount Recd on Maturity $1,040 Amount we willing to pay today is PV of Amount Recd 990.4762 4. Stratergy 1 Invest $2000 in Firm D Chance of Democrate to win 70% Firm D will Increase 12% Expected increase in FirmD 8.4% Net Profit From Firm D $168 4. Stratergy 2 Invest $2000 in Firm R Chance of Republican to win 30% Firm D will Increase 8% Expected increase in FirmD 2.4% Net Profit From Firm D $48 4. Stratergy 3 Invest in Firm D $1,000 Invest in Firm R $1,000 Total Investment $2,000 Expected Rate of Return* 13.80% Net Profit From Firm D $276 * (70%*12%)+(30%*18%) Stratergy 3 is the best 5 Balance Sheet (Extract) Particulars Amount Equities & Liabilities Reserves $50 Current Liabilities Deposits $500 Total Liabilities $550 Assets Investments $200 Loans & Advances $250 Total Assets $450 6 Why do Bank hold Reserves ? Set by the Fed's board of governors, reserve requirements are one of the three main tools of monetary policy. The other two tools are open market operations and the discount rate. Banks must hold in reserve against deposits made by their customers. 7 Sorry I don
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