IPS- Inflation & Education Next Year

CFA Level III
#1

Inflation is 3%

Education increases at 5%/year

Son is entering a 4 years college next year

Question asks for next year’s returns objective (preservation of base is required)

I weight-adjusted for both inflation and tuition annual increase (calculations for the first stage of the time horizon)

However, for preservation of asset base + following years increases, the answer adjusted for inflation only: [(expenses X([1+i] + tuition[1+ tuition increase])/asset base] X( 1+i)

So, this is how they accept it for the exam, right?

#2

yr0 (now) tuition = 40K, living expenses=100K, infl = 4%, tuition increase=5%, income grows with inflation and current income=75K

net investable assets = 1000K (for sake of simplicity).

next year (@ retirement) ->

exp = 100(1.04)+40(1.05) - 75(1.04) =68

Reqd Return -> 68/1000 = 6.8% + 4% = 10.8% (additive method).

… just trying to say it should be net of Expenses - Income to be considered as the numerator.

#3

This is for one year only. In the following year, the 1% higher tuition portion of income requirement will eat from the asset base. Asset base will be reduced by 1%X 40/1000 = 0.04% every year of the academic years. This is insignificance in absolute terms, but the calculations should at least illustrate this.

I thought we’re calculating return requirement for the upcoming stage of the time horizon (in that example is for 4 years). Not for just literarily the next year.

We’re adjusting returns by inflation, not just increase expenses by inflation for one year and do the calculations. This is for preservation of assets base. What would be the case if all the expenses are tuition? We’ll adjust return by tuition increase not inflation. What if half the expenses are tuition: my approach is to adjust every component by its relevant proportionate annual increase; the approach in the answers I’ve seen is just to adjust for inflation.

That’s being said, and based on an example provided by a veteran like cpk, it seems that the simple answer is what they’re looking for.

#4

look at the question

you have two separate patterns -

  1. Determine the required return for the NEXT year in retirement … go with Income/Expenses/Expenses - Income/Net Investment Assets at the end of the year BEFORE (now) -> calculate Required return.

  2. the 2nd format usually seen - is the PV/FV/N/PMT type - where the question does not state “at the end of so and so year in retirement”.