Question

Bonus Problem 2 (30 marks) Helena has $12000 at time 0 and is interested in buying an 5-year annuity-immediate which is currently sold at $16000. It is given that the annuity pays $(180 + 10k) at the end of th month (k = 1,2, ....,60). In order to buy the annuity at time 0, Helena decides to borrow additional $4000 from a bank and buy the annuity. She repays the loan by n level monthly payments of $500 plus a drop payment made 1 month after th repayment. The first repayment is made one month after the loan is made. The loan charges interest at annual nominal interest rate 10.8% convertible monthly On the other hand, Helena reinvests the amount received from the annuity immediately into an investment fund. The fund earns interest at annual nominal interest rate 6% convertible monthly. Helena withdrawals all amount and closes the account at the end of 5th year. Calculate the IRR of Helena's investment strategy. Please provide full justification to your answer.

Answer 1

Bacsically IRR concept says that, it is the rate at which the Present Value of Cash Inflows will be equal to the Present value of cashout flows. So to know the Cash Inflows and Cash Outflows please go through the following schedules

Points to be noted:

1.The loan taken by the Helena will be get repaid in 9 months. It is shown in the loan repayment schedule

2.For CashFlow Schedule:

Cashinflow(A) is Cash getting from the Anuuity fund

Cashinflow(B) is interest getting from the investment

Cashoutflow(A) is amount invested in investment (Note:This is the same amount which she got from annuity)

Cashoutflow(B) is amount repaid as a part of loan

3. Method we choose for getting IRR is Trail and Error

Solution: IRR is  23.25%.

Assumption:

1. There is an assumption considered that the Interest getting on the Investment is not getting accumulated