Reading 13 .Principles of Asset Allocation ( page 125 - The Smiths example)

Hi,

Can someone explain to me how they are working out the figures on the Smiths example.

  1. I got this answer right.

  2. This answer was later corrected to 6,275,000 but I still cant get to that answer.

  3. I got 6,691,026 for this one

  4. I got 2,682,718

Can someone let me know where I am getting wrong.

Thanks

Can you pl. Post the whole thing ? We are kind of done with the books and the vital source. Plus for 2020, the 2019 stuff won’t work I believe. More than 35% changes have taken place.

Post the entire question and all relevant data and details

Hello,

There are no questions for this, its part of the reading on Developing Goals-Based Asset Allocations (4.3 Construction Sub-Portfolios).

Hi, I saw your initial post looking for a study buddy I am located in woodmead and alberton. Please let me know if you are still interested in forming a group.

Good question…looking back at it, I am also struggling.

inflation 2%

discounting rate 6.1%

->real discounting rate = (1.061)/(1.02)-1= 4.02% for 25 years

assume annual spending=$500k (or do we need to 500*1.025=552 at beginning of year 6?)

PV(4.02%,25 periods,500,1 for beginning of period)=$8108k at beginning of year 6

PV of 8108 at the discount rate of 4.02% on 5 years (to bring back to year 1) = $6657k

if we use discount 6.1% for the PV on 5 years $6030k

Still far for the correct answer of $6275k

Anyone?

If you look at the 1st goal, the 2% inflation only kicks in from Year 2 onwards, so by Year 5, the expenses will be $500,000(1.02)^4 = $541,216.08.

At T = 5, the PV of the annuity stream from Year 6 to Year 30 (i.e. 25 years) is:

N = 25

PMT = 541,216.08

I/Y = 4.0196

FV = 0

[CPT] [PV] -8,437,432.29

Discount it back to T = 0 , you will get 8,437,432.29/1.061^5 = $6,275,283.94

Thanks,

when should i use real rate when to use nominal rate to discount?

If the cashflows are in nominal terms, then use the nominal discount rate.

If the cashflows are in real terms, then use real discount rate.

2 Likes

Hi,

Can you please show details how you calculate the first goal?

In [CF]:
C01 = 500,000

C02 = 500(1.02) = 510,000

C03 = 500(1.02)^2 = 520,200

C04 = 500(1.02)^3 = 530,604

C05 = 500(1.02)^4 = 541,216.08

Then compute the [NPV] using I = 2.3

Alternatively:

Adjusted real-cash flow per year
= 500,000/1.02
= 490,196.0784

Adjusted discounted rate
= 1.023/1.02 - 1
= 0.294118%

END Mode
0.294118 [I/Y]
490,196.0784 [PMT]
0 [FV]
5 [N]
[CPT] [PV]