Name:_________________________

ECO 340 820 Banking & Financial Markets

Homework #2, due Monday, 2/18

To answer questions 1-3 below, you can use excel or the online calculator link in the lecture notes. You can also
use a financial or graphing calculator
1.

A company offers you a job and gives you a choice between (1) a $50,000 salary and a $5,000 signing bonus
OR (2) a $52,000 salary. Assume salary is paid out annually. At a discount rate of 5%, how many years
will you need to work for the company in order to justify taking option (2)? Set up the equation and give
me a numerical answer.

2.
a)

Approximately how long (in years) would it take for an investment of $100 to reach $800 if you earned
5% annually on the investment?

b)

Approximately how long (in years) would it take for an investment of $100 to reach $800 if if you
earned 10% annually on the investment?

3.

Suppose you win a Mega Millions $200 million jackpot and are given the choice between (1) $100 million
immediately OR (2) $10 million per year over the next 20 years. At what discount rate are you indifferent
between these choices? Set up the equation and give me a numerical answer.

4.

Consider the following two coupon bonds:

Bond 1
Years to maturity
5

Bond 2
10

2
Coupon rate
Yield to maturity

5.

6%
7.6%

8%
7.7%

a)

For each bond explain why it is selling at a premium or a discount.

b)

Suppose interest rates in the economy rise overall. What happens to the price of each bond (in general)?
Which bond has the largest price change? Explain.

Assuming the chances of being paid back are the same, would a nominal interest rate of 10% ALWAYS be
more attractive to a lender than a nominal rate of 5%? Explain.