You have won the Florida state lottery. Lottery officials offer you the choice o

Question

You have won the Florida state lottery. Lottery officials offer you the choice of the following alternative payouts: Which alternative should you choose if the discount rate is: 0 percent? 10 percent? 20 percent? What discount rate makes the two alternatives equally attractive to you? Suppose you bought a bond that will pay $1,000 in 20 years. No intermediate coupon payments will be made. If the appropriate interest rate is 8 percent, what is the currents price of the bond? what will the price be 10 years from today? what will the price be 15 years from today? Assume the interest rate does not change over the life of the bond.

Explanation / Answer

Answer:

Option A

Because the net present value of project B is lesss therefore for 20 % discounting factor option A is better to take 10000000 one year from now

2)

Examples

Example 1: Bond with annual coupon payments

Company A has issued a bond having face value of $100,000 carrying annual coupon rate of 8% and maturing in 10 years. The market interest rate is 10%.

The price of the bond is calculated as the present value of all future cash flows:

Price of Bond = $87,711

hence for the above problem

The current price of the bond = 214.58

the price from 10 years from now = 463.19

The price from 15 years from now = 315.42

For 10000000 1 year Cash flow Pv 0% 10% 20% 10000000 1 0.9091 0.833 Net present value 10000000 9091000 8330000 For 20000000 5 year Cash flow Pv 0% 10% 20% 20000000 1 0.621 0.402 Net present value 20000000 12420000 8040000 Therefore options are Option B Option B

Option A

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