1-How does compound interest differ from simple interest? 2-What happens to a fu
ID: 2613322 • Letter: 1
Question
1-How does compound interest differ from simple interest?
2-What happens to a future value if you increase (decrease) the interest rate? Explain why.
3-What happens to a present value if you increase (decrease) the discount rate? Explain why.
4-As you increase (decrease) the length of time involved, what happens to future values? Explain why.
5-As you increase (decrease) the length of time involved, what happens to present values? Explain why.
6-What do we mean by discounted cash flow (DCF) valuation?
7-What is the basic present value equation?
8-What is the Rule of 72?
9-Why would you be willing to pay someone $25.00 today in exchange for their promise to pay you back four times that amount ($100.00) in 30 years?
10-If you were willing to pay $25.00 today in exchange for $100 in 30 years from now, what important things must you consider in agreeing to accept this investment? Would your acceptance of this investment depend on who is making the promise to pay you in 30 years?
Explanation / Answer
Compound interest assumes that interest earned is again re-invested at coupon rate. It gives compounding affect for interest.
Ex: compounding interest for 3 months = $1,000×[(1+10%)^3-1] = $331
Simple interest is the interest earned per period. It does not assume re-investment of interest earned.
Ex: Simple interest for 3 months = $1,000×10%×3 = $300
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