You can invest in a risk-free technology that requires an upfront payment of $1.02 million and...
You can invest in a risk-free technology that requires an upfront payment of $1.02 million and will provide a perpetual annual cash flow of $114,000. Suppose all interest rates will be either
10.5 % or 4.7% in one year and remain there forever. The risk-neutral probability that interest rates will drop to 4.7% is 90%. The one-year risk-free interest rate is 7.9%, and today's rate on a risk-free perpetual bond is 5.9%.
The rate on an equivalent perpetual bond that is repayable at any time (the callable annuity rate) is 8.6%.
a. What is the NPV of investing today?
b. What is the NPV of waiting and investing tomorrow?
c. Verify that the hurdle rate rule of thumb gives the correct time to invest in this case.
a. What is the NPV of investing today?
The NPV is _____ .
(Round to the nearest dollar.)
b. What is the NPV of waiting and investing tomorrow?
The NPV if the rate goes up is _____ .
(Round to the nearest dollar.)The NPV if the rate goes down is _____ .
(Round to the nearest dollar.)The PV is ______ .
(Round to the nearest dollar.)
c. Verify that the hurdle rate rule of thumb gives the correct time to invest in this case.
The hurdle rule is _____ .
(Round to the nearest dollar.)The NPV greater than NPV >0, so (wait or invest now)
▼
wait
invest now
. (Select from the drop-down menu.)
Homework Answers
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You can invest in a risk-free technology that requires an
upfront payment of $1.02 million and...
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You can invest in a risk-free technology that requires an upfront payment of 1,180,000 and will provide a perpetual annual cash flow of 114,000. Suppose all interest rates will be either 9.9% or 4.7% in one year and remain there forever. The risk-neutral probability that interest rates will drop to 4.7% is 89%. The one-year risk-free interest rate is 8.2% anid today's rate on a risk-free perpetual bond is 5.1%, the rate on an equivalent bond that is repayable at...
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Suppose that you invest $100 today in a risk-free investment and let the 5 percent annual...
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