TUTORIAL EXERCISES WEEK 3
Question 1
Find the present value of $1000 due at the end of 10 years if
(a) i (2) 0.09 , (b) i (6) 0.09 , and (c) i (12) 0.09 .
(d) In Excel, calculate the present value of $1million under each of the following situations /
scenarios.
Annual effective interest rate, i
(2)
$1m received in: i = 4% i(4) = 4% i = 6% i(10) = 8%
2 years
5 years
7.5 years
127 months
20 years
Question 2
Mountain Bank pays interest at a nominal rate convertible half-yearly of i ( 2) 0.15 . River
Bank pays interest compounded daily. What minimum nominal annual rate convertible daily
must River Bank pay in order to be as attractive as Mountain Bank?
Question 3
Bank A has an effective annual rate of 18%. Bank B has a nominal annual rate of 17%
convertible m times per year. What is the smallest whole number of times per year ( m ) that
Bank B must compound its interest in order that the rate at Bank B be at least as attractive as
that at Bank A on an effective annual basis? Repeat the exercise with a nominal rate of 16%
per annum at Bank B.
Hint: Use trial and error to check the whole numbers.
Question 4
Nominal interest can be defined even if m is not an integer. The algebraic definition
m
i(m)
1 i 1 is still valid. Suppose a bank advertises a nominal rate of 10% per annum
m
convertible every 45 days on short-term deposits. Find m and the equivalent effective annual
rate of interest.
STAT2032/6046 – Financial Mathematics 1
Question 5
The nominal rate of interest i ( m ) can be defined for values of m 1 . Algebraically the
m
i(m)
definition follows the relationship in the equation 1 i 1
m
(a) If i 0.10 , find the equivalent i (0.5) , i (0.25) , i (0.1) , and i (0.01) . Rank the values in increasing
size, and compare with the relationship i ( m ) i for m 1 .
(b) Find the equivalent effective annual rate i if (i) i ( 0.5 ) 0.10 , (ii) i (0.25) 0.10 , (iii)
i (0.1) 0.10 , and (iv) i (0.01) 0.10 .
Question 6
If the effective rate of interest is 10% per annum, calculate (a) d and (b) d (12) .
Question 7
Find the accumulated value of $100 at the end of two years if:
(a) the nominal annual rate of interest is 6% convertible quarterly.
(b) the nominal annual rate of discount is 4% convertible monthly.
(c) the nominal annual rate of discount is 6% convertible once every four years.
Question 8
An investment of $1,000 accumulates to $1,360.86 at the end of 5 years. If the force of
interest is during the first year and 1.5 in each subsequent year, find the equivalent
effective annual interest rate in the second year.
Question 9
Smith forecasts that interest rates will rise over a 5-year period according to a force of interest
0.025t
function given by t 0.08 for 0 t 5 .
t 1
(a) According to this scheme, what is the average annual compound effective rate for the 5-
year period?
(b) What is the present value at t=2 of $1,000 due at t=4?
t
Hint: dt t ln(t 1)
t 1
Question 10
The present value of K payable after 2 years is $960. If the force of interest is cut in half the
present value becomes $1,200. Find K.
What is the present value if the effective annual discount rate is cut in half?
STAT2032/6046 – Financial Mathematics 2
STAT2032/6046 – Financial Mathematics 3
