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Question
Styles Normal No Soaong 9Text Box Shape Pict be 10. (10 points) a) If the rate of return on a stock is 10% per year, how long would you expect it to take for you to double your money if you invested in it according to the rule of 72? What is the rule of 69? Explain the difference. mb tre b) You are retired and will now draw down the value of your $1.2 million equity index mutual fund portfolio at the rate of 4% ($4,000 per month) for living expenses. Equities average approximately 10% per year. Assuming the index fund does exactly the same as the index after expenses, will you do as well or worse than the market when withdrawing funds at this rate, and why? c) What is a tax inversion? Give an example. Explain. d) Why does the U.S. BLS have an incentive to understate inflation? Explain. Print Layout View Sec1 Pages:7of 7 Words: 143 of 1563 172%Explanation / Answer
a. The Rule of 72 says that the time to double your money (TDM) approximately equals 72/i,
Where i is expressed as a percentage, which is 10%
Therefore 72/10% = 7.2 years
It will take 7.2 years of time to double your investment.
The Rule of 69 also use calculate the time required to double your money (TDM) which is approximately equals 69/i, but it is used for continuously compounded interest rate
Where i is expressed as a percentage, which is 10%
Therefore 69/10% = 6.9 years
Therefore if interest rates are continuously compounded then it will take 6.9 years of time to double your investment.
b. The Index and equity index fund both are performing similar and giving same annual return of 10%. In first case it is assumed that the annual returns also get reinvested at same rate but the second case, the whole amount of annual returns are not reinvested as it is withdrawn at the rate of 4% per annual or 0.33% per month and remaining amount get reinvested at 10%. Therefore in first case (index) the amount at the end of period will be more than the second case (equity index fund) because of higher amount of reinvestment but both funds are performing similar (equity index fund, it’s like paying dividends instead of reinvesting whole amount)
c. Tax inversions are used to reduce the tax burden of corporations and individuals in a legal way by relocating the operations to more favorable places or investing in a manner so that one can reduce their tax obligations.
d. The Bureau of Labor Statistics (BLS) measures the inflation by weighted average method of goods and services and compares it with previous periods to state the changes in the inflation. The BLS has an incentive to understate the inflation so that the consumer in the market can purchase the product and services at cheaper rate and cost of living will not increase at higher rate which is directly related to the inflation rate.