Suppose you are committed to owning a $215,000 Ferrari. Required: If you believe
ID: 2718663 • Letter: S
Question
Suppose you are committed to owning a $215,000 Ferrari. Required: If you believe your mutual fund can achieve a 10.80 percent annual rate of return, and you want to buy the car in 9 years on the day you turn 30, how much must you invest today.
You have just received notification that you have won the $2.07 million first prize in the Centennial Lottery. However, the prize will be awarded on your 100th birthday (assuming you’re around to collect), 73 years from now. Required: What is the present value of your windfall if the appropriate discount rate is 11 percent?
Explanation / Answer
Future Commitied Value for Ferrari = $215000
Future value = Present Value * ( 1+ Discount rate) ^9
Present Value ( Today Investment Value ) = $215000 / (1+0.1080)^9
= $ 215000 * 0. 39732158
= $ 85424.14
where
Periodic Discount = return on mutula fund = 10.80%
Future value of Lottery = $2070000
Future value of Lottery = Present value * ( 1+Periodic discount rate)^73
Present Value of lottery amount = $ 2070000/(1+0.11)^73
= $ 2070000* 0.00049138569
=$ 1017.168
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