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Time Value of Money

1. John Smith has received a $1,000,000 gift from his grandmother. Below are two alternatives for investment. Calculate the current value of each. Which investment should John choose and why?

A. Invest in a one year government security yielding 5%.
B. Invest in real estate with some risk. John has found a piece of property for $1,000,000 that is forecasted to be worth $1,100,000 after one year.

2. Tom Jones is 65 years of age and has a life expectancy of 12 more years. He wishes to invest $20,000 in an annuity that will make a level payment at the end of each year until his death. If the interest rate is 8%, what income can Mr. Jones expect to receive each year?

3. Evaluate the three investment opportunities for bonus of $1,000 you just received. Find the values at 1 year, 5 years, and 20 years. Indicate which opportunity is the best for each of time periods.

A. An account paying 12% interest compounded annually.
B. An account paying 11% interest compounded semi-annually.
C. An investment that will pay you 14% annual interest only at the end of the investment period. of 1 year, 5 years, or 20 years.

Solution Preview

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1. John Smith has received a $1,000,000 gift from his grandmother. Below are two alternatives for investment. Calculate the current value of each. Which investment should John choose and why?
A. Invest in a one year government security yielding 5%.
Return= 5%

B. Invest in real estate with some risk. John has found a piece of property for $1,000,000 that is forecasted to be worth $1,100,000 after one year.

Return= 10% = ($1,100,000 / $1,000,000)-1

John can choose either of the two investments depending on his risk tolerance.
If he wants a less risky investment, he can choose a government security that has a lower return.
If he can tolerate risk, he can choose real estate. He will be rewarded by a higher return (10%) for taking this risky investment.

2. Tom Jones is 65 years of age and has ...

Solution Summary

The expert evaluates investments and calculates the value of annuity. The real estate with some risks invested are determined.

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