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Which one of the following investments provides the highest effective annual rate of return (i.e., which...

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Finance

Which one of the following investments provides the highesteffective annual rate of return (i.e., which of the followinginvestments is the BEST = the largest EAR) over an investmenthorizon of 10 years)?

a. An investment which has a 3.0 percent nominal rate withannual compounding.

b. An investment which has a 2.98 percent nominal rate withsemi-annual compounding.

c. An investment which has a 2.965 percent nominal rate withquarterly compounding.

d. An investment which has a 2.9575 percent nominal rate withmonthly compounding.

e. An investment which has a 2.955 percent nominal rate anddaily (365) compounding

Answer & Explanation Solved by verified expert
4.2 Ratings (804 Votes)

b. An investment which has a 2.98 percent nominal rate with semi-annual compounding.

a. Effective annual rate of return = ((1+i)^n)-1 Where,
(EAR) = ((1+0.03)^1)-1 i Nominal rate of return           0.03
= 3.000% n Number of times compounding in a year 1
b. Effective annual rate of return = ((1+(i/n))^n)-1 Where,
(EAR) = ((1+(0.0298/2))^2)-1 i       0.0298
= 3.002% n 2
c. Effective annual rate of return = ((1+(i/n))^n)-1 Where,
(EAR) = ((1+(0.02965/4))^4)-1 i     0.02965
= 2.998% n 4
d. Effective annual rate of return = ((1+(i/n))^n)-1 Where,
(EAR) = ((1+(0.029575/12))^12)-1 i 0.029575
= 2.998% n 12
e. Effective annual rate of return = ((1+(i/n))^n)-1 Where,
(EAR) = ((1+(0.02955/365))^365)-1 i     0.02955
= 2.999% n 365
So,
b. An investment which has a 2.98 percent nominal rate with semi-annual compounding has highest effective annual rate of return.

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Transcribed Image Text

Which one of the following investments provides the highesteffective annual rate of return (i.e., which of the followinginvestments is the BEST = the largest EAR) over an investmenthorizon of 10 years)?a. An investment which has a 3.0 percent nominal rate withannual compounding.b. An investment which has a 2.98 percent nominal rate withsemi-annual compounding.c. An investment which has a 2.965 percent nominal rate withquarterly compounding.d. An investment which has a 2.9575 percent nominal rate withmonthly compounding.e. An investment which has a 2.955 percent nominal rate anddaily (365) compounding

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