Question

3.- You have an investment opportunity that requires an initial investment of $2500 today and will pay $3000 in one year. What is the IRR of this opportunity? (10 points) 4.-You need to borrow 2000, bank A offers 7.9% interest semiannually, bank B offers 8% compounded quarterly. Which is the best option for you? (10 points)

İ need both, please

Answer 1

3-

Present value and future value are related as:

PV = FV/(1+r) ⁿ

r is the rate of return and n is the number of periods.

$ 2,500 = $ 3,000 / (1+r)

(1+r) = $ 3,000/$ 2,500 = 1.2

r =1.2 -1 = 0.2 or 20 %

Internal rate of return for the investment opportunity is 20 %

4-

Let’s compute effective interest rate for both the options.

r = (1+i/n) ⁿ – 1

r is the effective interest rate, i is stated rate and n is the annual compounding frequency.

Option 1(Bank A):

r = (1+0.079/2)² – 1

= (1+0.0395)² – 1

= (1.0395)² – 1

= 1.08056025 -1 = 0.08056025 or 8.06 %

Option 2(Bank B):

r = (1+0.08/4)⁴ – 1

= (1+0.02)⁴ – 1

= (1.02)⁴ – 1

= 1.08243216 -1 = 0.08243216 or 8.24 %

Borrowing from Bank A is best option as the effective rate for Bank A is less than Bank B.