Question

Augustine is interested in whether he should purchase an annuity or an annuity due today. The annuity that he is considering will pay $100 per year starting in 2 years and ending in 5 years. The annuity due will begin payments of $100 per year for 4 years starting in 1 years. With a discount rate of 11%, which investment should he purchase today and why?

Answer 1

Answer:

Annuity due

Explanation:

In this question we have to compare the present value based on annuity or annuity due.

On annuity:          

Years        Cash flows   Discount factor      Present value

2                $100.00 0.8116224332 $81.16

3                $100.00 0.7311913813         $73.12

4                $100.00 0.6587309741 $65.87

 5               $100.00 0.5934513281 $59.35

Present value                                                 $279.50

On annuity due

Years        Cash flows   Discount factor      Present value

2                $100.00 0.9009009009 $90.09

3                $100.00 0.8116224332 $81.16

4                $100.00 0.7311913813          $73.12  

 5               $100.00 0.6587309741 $65.87

Present value                                                 $310.24

Therefore, he should purchase annuity due as it has the high present value