Some friends of yours have just had a child. Thinking ahead, and realizing the p

Question

Some friends of yours have just had a child. Thinking ahead, and realizing the power of compound interest, they are considering investing for their child s college education, which win begin in 18 years. Assume that the cost of a college education today is S125,000. Also assume there is no inflation and no tax on interest income used to pay college tuition and expenses. Instruction: Round your answers to the nearest dollar. If the interest rate is 5 percent, how much money will your friends need to put into their savings account today to have 5125,000 in 18 years? They would need to put dollar into their savings account today. If the interest rate were 10 percent? They would need to put dollar into their savings account today. The chance that the price of a college education will be the same 18 years from now as it is today seems remote. Assuming that the price will rise 3 percent per year, and that today's interest rate is 8 percent, v/hat will your friends' investment need to be? The amount of the investment would be S Return to the case with a 5 percent interest rate and no inflation. Assume that your friends don't have enough financial resources to make the entire investment at the beginning. Instead, they think they will be able to split their investment into two equal parts, one invested immediately and the second invested in five years. What is the amount of each part? The required size of the two investments would be:

Explanation / Answer

a. 125,000 = P(1+0.05)^18

P = 125,000/(1.05)^18

P = 51940.081

b.   

125,000 = P(1+0.10)^18

P = 125,000/(1.05)^18

P = 22482.35

c. real interest rate r = Nominal interest rate - inflation rate

r = 8 - 3 = 5%

125,000 = P(1+0.05)^18

P = 125,000/(1.05)^18

= 51940.081

d.

125,000 = P(1+0.05)^18 + P(1+0.05)^13

125,000 = P[(1+0,05)^18 + (1+0.05)^13]

P = 125,000/4.2922

P = 29122.59

If you don't understand anything then comment, I'ill revert back on the same. :)

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