Jimmy has just received a bonus of $6,000 from work which he plans to invest int

Question

Jimmy has just received a bonus of $6,000 from work which he plans to invest into an IRA. After a lot of research, Jimmy has narrowed his selection to two mutual funds. The first fund requires a 5% up-front commission followed by a 0.25% annual management fee. The second fund has no up-front fee; instead its management fees are 2.00% in year one, 0.42% in years two and three, and 1.35% each year thereafter. He intends to keep this money in the mutual fund for 10 years and is estimating a 5% annual return. Formulate a spreadsheet to determine which mutual fund Jimmy should select.

Explanation / Answer

Option 1 Option 2 Year Flow Disc. Factor PV Year Flow Disc. Factor 0           -300 1           -300 0                -   1                -   1         -15.0 0.952381             -14 1       -120.0 0.952381           -114 2         -15.0 0.907029             -14 2         -25.2 0.907029             -23 3         -15.0 0.863838             -13 3         -81.0 0.863838             -70 4         -15.0 0.822702             -12 4         -81.0 0.822702             -67 5         -15.0 0.783526             -12 5         -81.0 0.783526             -63 6         -15.0 0.746215             -11 6         -81.0 0.746215             -60 7         -15.0 0.710681             -11 7         -81.0 0.710681             -58 8         -15.0 0.676839             -10 8         -81.0 0.676839             -55 9         -15.0 0.644609             -10 9         -81.0 0.644609             -52 10         -15.0 0.613913               -9 10         -81.0 0.613913             -50 Total PV of the outflow           -416 Total PV of the outflow           -612 Since PV of the outflow in Option 1 is lesser so he should select option 1

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