An investment called a deferred annuity promises annual payments of 7500, with t

Question

An investment called a deferred annuity promises annual payments of 7500, with the first payment occurring five years from today. Your required rate of return is 6%. What is the most that you would pay for this investment today if there were 12 annual payments, 25 annual payments and if the annual payments continued forever ? An investment called a deferred annuity promises annual payments of 7500, with the first payment occurring five years from today. Your required rate of return is 6%. What is the most that you would pay for this investment today if there were 12 annual payments, 25 annual payments and if the annual payments continued forever ?

Explanation / Answer

(1) Number of payments (N) = 12

Present worth = 7500 x P/A(6%, 12) x P/F(6%, 12) = 7500 x 8.3838** x 0.4970** = 31,248.69

(2) Number of payments (N) = 25

Present worth = 7500 x P/A(6%, 25) x P/F(6%, 25) = 7500 x 12.7834** x 0.2330** = 22,338.86

(3) Perpetuity

Present worth = 7500 / 0.06 = 125,000

**From P/A and P/F factor tables

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