Page 34 - DMGT207_MANAGEMENT_OF_FINANCES

Unit 2: Time Value of Money

(b) In case of rule of 69 Notes
ERI  69  . 0 35
D p
Illustration: Take the above example:
ERI  69  . 0 35
8 years
= 8.98 per cent or 9 per cent

Self Assessment

Fill in the blanks:

13. Compound growth rate can be calculated with the formula- ………………. .
14. To get doubling period 72 is divided by ………………. rate.

15. ………………. period is the time required, to double the amount invested at a given rate of
interest.



Case Study Comparing Mortgage Alternatives

he application of the time value of money principles can help you make decisions
on loan alternatives. This exercise requires you to compare three mortgage
Talternatives using various combinations and points. Points on a mortgage refer to
a payment that is made upfront to secure the loan. A single point is a payment of one per
cent of the amount of the total mortgage loan. If you were borrowing 200,000 a single
point would require an upfront payment of 2,000.
When you are evaluating alternative mortgages, you may be able to obtain a lower rate
by making an upfront payment. This comparison will not include an after-tax comparison.
When taxes are considered, the effective costs are affected by interest paid and the
amortization of points on the loan. This analysis will require you to compare only before-
tax costs.

Zeal.com allows you to compare the effective costs on alternative mortgages. You are
considering three alternatives for a 250,000 mortgage. Assume that the mortgage will
start in December, 2006. The mortgage company is offering you a 6% rate on a 30-year
mortgage with no points. If you pay 1.25 points, they are willing to offer you the mortgage
at 5.875%. If you pay 2 points, they are willing to offer you the mortgage at 5.75%.

Questions
1. What are the mortgage payments under the three alternatives?

2. Which alternative has the lowest effective cost?
3. Can you explain how the effective rate is being calculated?

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