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Chapter 3: Finance Mathematics

Exercise By Dr. Pham Huu Anh Ngoc

Annuity
Problem 1: Find the value of each ordinary annuity based on the information given. (a) R = 9200, 16% interest compounded semiannually for 7 years. (b) R = 800, 12% interest compounded semiannually for 12 years.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Annuity
Problem 1: Find the value of each ordinary annuity based on the information given. (a) R = 9200, 16% interest compounded semiannually for 7 years. (b) R = 800, 12% interest compounded semiannually for 12 years. Hint: Using the following Theorem Amount of an annuity: The amount S of an annuity of payments of R dollars each, made at the end of each period for n consecutive interest periods at a rate of interest i per period, is given by S =R (1 + i)n 1 . i

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Annuity
Problem 1: Find the value of each ordinary annuity based on the information given. (a) R = 9200, 16% interest compounded semiannually for 7 years. (b) R = 800, 12% interest compounded semiannually for 12 years. Hint: Using the following Theorem Amount of an annuity: The amount S of an annuity of payments of R dollars each, made at the end of each period for n consecutive interest periods at a rate of interest i per period, is given by S =R (1 + i)n 1 . i

Solution (a) $ 222,777.27 (R = 9200, i = 0.08, n = 14) (b) $ 40,652.46


Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Annuity

Problem 1a: (a) Pat Pearson deposits $12, 000 at the end of each year for 9 years in an account paying 8% interest compounded annually. Find the nal amount she will have on deposit. (b) Pats Brother-in-law works in a bank that pays 6% compounded annually. If she deposits her money in this bank instead of the one in (a), how much she will have in her account? (c) How much would Pat lose over 9 years by using her brother-in-law instead of the bank in (a)?

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Annuity
Problem 2: Find the periodic payments that will amount to the given sums under the given conditions (a) S = 10, 000, interest is 8% compounded annually ; payments are made at the end of each year for 12 years. (b) S = 50, 000, interest is 12% compounded quarterly ; payments are made at the end of each quarter for 8 years.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Annuity
Problem 2: Find the periodic payments that will amount to the given sums under the given conditions (a) S = 10, 000, interest is 8% compounded annually ; payments are made at the end of each year for 12 years. (b) S = 50, 000, interest is 12% compounded quarterly ; payments are made at the end of each quarter for 8 years.

Hint: Solve S =R for R. Solution: (a) $526.95

(1 + i)n 1 i

(b) $925.33

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Annuity
Problem 3: In 1995, Oseola Mc Carty donated $150, 000 to the University of Southern Mississippi to establish a scholarship fund. What is unusual about her is that the entire amount come from her work as a washer woman, a job she began in 1916 at the age of 8, when she dropped out of school. How much would Ms Mc Carthy have to put in her saving account at the end of every three months to accumulate $150, 000 over 79 years? Assume she received an interest rate of 5.25% compounded quarterly.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Annuity
Problem 3: In 1995, Oseola Mc Carty donated $150, 000 to the University of Southern Mississippi to establish a scholarship fund. What is unusual about her is that the entire amount come from her work as a washer woman, a job she began in 1916 at the age of 8, when she dropped out of school. How much would Ms Mc Carthy have to put in her saving account at the end of every three months to accumulate $150, 000 over 79 years? Assume she received an interest rate of 5.25% compounded quarterly. Solution: Solve the equation S =R (1 + i)n 1 i

for R. Here S = 150, 000; n = 79 4 = 316; i = 0.013125. R = $32.49


Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Sinking fund
Problem 4 a: A rm must pay o $40, 000 worth of bonds in 7 years. Find the amount of each annual payment to be make into a sinking fund, if the money earns 6% compounded annually.

Problem 4 b: Tonya Mc Carley wants to buy a car that she estimates will cost $18, 000 in 6 years. How much money must she deposit at the end of each quarter at 12% interest compounded quarterly in order to have enough in 6 years to pay for her car.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Sinking fund
Problem 4 a: A rm must pay o $40, 000 worth of bonds in 7 years. Find the amount of each annual payment to be make into a sinking fund, if the money earns 6% compounded annually.

Problem 4 b: Tonya Mc Carley wants to buy a car that she estimates will cost $18, 000 in 6 years. How much money must she deposit at the end of each quarter at 12% interest compounded quarterly in order to have enough in 6 years to pay for her car. Hint: Solve the equation S =R (1 + i)n 1 i

for R. Solution: (4a) $4765.40 (b) $522.85


Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Present value of Annuity


Problem 5: Find the present value of each ordinary annuity. (a) Payments of $5000 are made annually for 11 years at 6% compounded annually. (b) Payments of $50, 000 are made quarterly for 10 years at 8% compounded quarterly.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Present value of Annuity


Problem 5: Find the present value of each ordinary annuity. (a) Payments of $5000 are made annually for 11 years at 6% compounded annually. (b) Payments of $50, 000 are made quarterly for 10 years at 8% compounded quarterly. Hint: Theorem The present value P of an annuity of payments of R dollars each, made at the end of each period for n consecutive interest periods at a rate of interest i per period is given by P=R Solution: (a) $39, 434.37
Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

1 (1 + i)n i

(b) $1, 367, 773.96

Present value of Annuity


Problem 6: Find the lump sum deposited today that will yield the same amount as payments of $10, 000 at the end of each year for 15 years, at the following interest rates. Interest is compounded annually. (a) 5% (b) 8%.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Present value of Annuity


Problem 6: Find the lump sum deposited today that will yield the same amount as payments of $10, 000 at the end of each year for 15 years, at the following interest rates. Interest is compounded annually. (a) 5% (b) 8%.

Hint: We have to nd the present value of the given annuity. Use the formula: 1 (1 + i)n P=R i Solution: (a) $103, 796.58 (b) $85, 594.79

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Present value of Annuity


Problem 6a In his will the late Mr. Hudspeth said that each child in his family could have an annuity of $2000 at the end of each year for 9 years, or the equivalent present value. If money can be deposited at 8% compounded annually, what is the present value?

Problem 6b You have a coin you wish to sell. A potential buyer oers to purchase the coin from you in exchange for a series of three annual payments of $50 starting one year from today. What is the current value of the oer if the prevailing rate of interest is 7% compounded annually?

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Present value of Annuity


Problem 6a In his will the late Mr. Hudspeth said that each child in his family could have an annuity of $2000 at the end of each year for 9 years, or the equivalent present value. If money can be deposited at 8% compounded annually, what is the present value?

Problem 6b You have a coin you wish to sell. A potential buyer oers to purchase the coin from you in exchange for a series of three annual payments of $50 starting one year from today. What is the current value of the oer if the prevailing rate of interest is 7% compounded annually? Solution: Use the formula: P=R 1 (1 + i)n i

with R = 50, i = 0.07, n = 3. Thus P = $131.21


Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization

Problem 7: Find the payments necessary to amortize each loan. (a) 2500, 16% compounded quarterly ; 6 quarterly payments. (b) 45, 000, 18% compounded monthly ; 36 monthly payments.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization

Problem 7: Find the payments necessary to amortize each loan. (a) 2500, 16% compounded quarterly ; 6 quarterly payments. (b) 45, 000, 18% compounded monthly ; 36 monthly payments.

Hint: We nd R from the equation P=R Solution: (a) $476.90 1 (1 + i)n i

(b) $1626.86

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
Problem 9: A used car costs $6000. After a down payment of $1000, the balance will be paid o in 36 monthly payments with interest of 12% per year, compounded monthly. Find the amount of each payment.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
Problem 9: A used car costs $6000. After a down payment of $1000, the balance will be paid o in 36 monthly payments with interest of 12% per year, compounded monthly. Find the amount of each payment.

Solution: A single lump sum payment of $5000 today would pay o the loan, so $5000 is the present value of an annuity of 36 monthly payments with interest of 12%/12 = 1% per month. We nd R using the formula: P=R 1 (1 + i)n = R = i P
1(1+i)n i

Replacing P with 5000, n with 36 and i with 0.01, we get R = 166.07

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
General Problem: Assume that you borrowed P dollars from a bank with a rate of interest i per period. You plan to pay R dollars at the end of each period for n consecutive periods in order to pay o the debt. Find the payment R.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
General Problem: Assume that you borrowed P dollars from a bank with a rate of interest i per period. You plan to pay R dollars at the end of each period for n consecutive periods in order to pay o the debt. Find the payment R. Solution: At the end of the rst period, the interest on P dollars is given by P.i.1 = Pi. The amount is applied to the reduction of the original debt is R Pi. Therefore, the amount in the account at the end of the rst period is P (R Pi) = P(1 + i) R. At the end of the second period, the interest on P(1 + i) R dollars is given by (P(1 + i) R).i.1 = (P(1 + i) R)i.
Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

The amount is applied to the reduction of the debt is R (P(1 + i) R)i. Therefore, the amount in the account at the end of the second period is (P(1 + i) R) (R (P(1 + i) R)i) = P(1 + i)2 R(1 + i) R. By induction, the amount in the account at the end of the nth period is P(1 + i)n R(1 + i)n1 ... R(1 + i) R. We pay o the debt at the end of nth period, so we have P(1 + i)n R(1 + i)n1 ... R(1 + i) R = 0, or equivalently P(1 + i)n = R(1 + i)n1 + ... + R(1 + i) + R.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Note that R(1 + i)n1 + ... + R(1 + i) + R = R Thus, we have P(1 + i)n = R This gives P=R Hence R= 1 (1 + i)n . i P
1(1+i)n i

(1 + i)n 1 . i

(1 + i)n 1 . i

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
Problem 10: Leslie Ulman buys a new car costing $16, 000. She agrees to make payments at the end of each month for 4 years. If she pays 12 % interest, compounded monthly, what is the amount of each payment? Find the total amount of interest Leslie will pay.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
Problem 10: Leslie Ulman buys a new car costing $16, 000. She agrees to make payments at the end of each month for 4 years. If she pays 12 % interest, compounded monthly, what is the amount of each payment? Find the total amount of interest Leslie will pay. Solution: We nd R using the formula: P=R 1 (1 + i)n = R = i P
1(1+i)n i

Replacing P with 16,000, n with 48 and i with 0.01, we get R = 421.34

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
Problem 11a: An insurance rm pays $4000 for a new printer for its computer. It amortizes the loan for the printer in 4 annual payments at 8% compounded annually. Prepare an amortization schedule for this machine.

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

Amortization
Problem 11a: An insurance rm pays $4000 for a new printer for its computer. It amortizes the loan for the printer in 4 annual payments at 8% compounded annually. Prepare an amortization schedule for this machine. Solution: First, we nd the payment of each year R, using the formula: P=R 1 (1 + i)n = R = i P
1(1+i)n i

Replacing P with 4,000, n with 4 and i with 0.08, we get R = 1207.68 The amortization schedule for this machine is as follows:

Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics

A test
(1) Harvs Meats will need to buy a new deboner machine in 4 years. At that time, Harv expects the machine to cost $12, 000. To accumulate enough money to pay the machine, Harv decides to deposit a sum of money at the end of each 6 month period in an account paying 16% compounded semiannually. How much should each payment be? (2) What amount must you invest today at 6% compounded annually so that you can withdraw $5,000 at the end of each year for the next 5 years?

(3) Find the monthly house payment necessary to amortize the loan $249, 560 at 7.75% for 25 years. Then nd the unpaid balance after 5 years for the loan. (4) Certain large semitrailer trucks cost $72, 000 each. Ace Trucking buys such a truck and agrees to pay for it with a loan that will be amortized with 9 semiannual payments at 9.5% compounded semiannually. Prepare an amortization schedule for this truck.
Exercise By Dr. Pham Huu Anh Ngoc Chapter 3: Finance Mathematics