Financial Modeling Exam 1 Questions and
Answers 100% Pass
The 3 equivalent ways of calculating the present value of a single cash flow are: -
Answer - 1. PV formula
2. PV function
3. PV timeline
The effect of future value of a single cash flow when you increase the PV - Answer - an
increase in the FV
The effect of future value when you increase the discount rate - Answer - an increase in
FV
The effect of future value when you increase the number of periods - Answer - an
increase in the FV
Fully explain the formula used for calculating the FV of each cash flow - Answer - Each
cash flow is compounded at the Discount Rate for the remaining periods
What is the name of the term that the Present Value is divided by to get the Payment.
Why does this formula give the Payment amount? - Answer - Present Value Interest
Factor of Annuity. APV = PMT X PVIFA. So, dividing by the Present Value Interest
Factor undo's the product, and gives you the PMT.
Show the formula for calculating the Annuity Present Value using the Annuity Future
Value, Discount Rate, and # of Periods in Excel Notation - Answer - APV = AFV/(1+r)^t
State the effect of increasing the payment amount on the APV and AFV - Answer - APV
= increase in FV
AFV = increase in FV
Can the constant discount rate method be used to calculate NPV in the general case
where the discount rate changes over time? Why/Why not? - Answer - No, because the
NPV function & constant discount formula only allow for one constant discount rate.
Fully explain the NPV function used to calculate the NPV in cell b21 - Answer - The
NPV function in Excel assumes that Year 0 cash flow occurs at the end of the year
instead of the beginning, so you add it to the NPV of the remaining years using the NPV
, function. The NPV function takes the cash flows from each year, discounts it by the
nominal discount rate (which is found by compounding the inflation rate & the real
discount rate) and summing them up (including the initial investment)
Is the NPV of the project shown acceptable for investment? Why/Why not - Answer - A
project is acceptable if the NPV is positive
If we add the inflation rate and the real discount rate to get the nominal discount rate,
how will it be different from the formula in b9? - Answer - It won't give us the
effect/measurement of the increase in the real discount rate due to inflation
Why is the coupon bond yield to maturity close to, but not exactly equal to, the yield to
maturity of the four-year treasury strip? - Answer - Because the yield of the coupon
bond is a weighted average of the yields for each of the 8 periods. The biggest cash
flow is on the maturity date, and the biggest weight in the weighted average is on that
date. So, it's closest to the yield at the maturity date. But now the same.
State whether the EAR convention results in a higher or lower bond price than the APR
convention in and give the reason for this. - Answer - higher bond price because it is a
lower discount rate, which from the laws of discounting cash flows results in a higher
bond price.
State and explain the differences between the curvatures of the yield to maturity curve
and the forward rate curve. - Answer - Forward rates curve is not smooth, whereas the
Yield Curve is a compounded average of the Forward rates so it has a smoother curve.
Fully explain the formula for calculating the forward rate of the Ten Year Treasury Strip.
- Answer - Take the 10 year yield to maturity and divide it by the 5 year rate
compounded for 5 years to give the 5 year compounded value between years 5 and 10.
Then take the 5th root to convert it to annual rate, and subtract 1 for the principal.
Explain why the yield curve often has lower yields at the short end and the long end due
to market segmentation. - Answer - There is more demand for short-term bonds for
cash management, which increases prices of short term bonds, resulting in low yields at
the short end.
List the static features regarding the shape, level, and curvature of the U.S. yield curve.
- Answer - A. Four different shapes: upward sloping, downward sloping, flat, and
humped.
Answers 100% Pass
The 3 equivalent ways of calculating the present value of a single cash flow are: -
Answer - 1. PV formula
2. PV function
3. PV timeline
The effect of future value of a single cash flow when you increase the PV - Answer - an
increase in the FV
The effect of future value when you increase the discount rate - Answer - an increase in
FV
The effect of future value when you increase the number of periods - Answer - an
increase in the FV
Fully explain the formula used for calculating the FV of each cash flow - Answer - Each
cash flow is compounded at the Discount Rate for the remaining periods
What is the name of the term that the Present Value is divided by to get the Payment.
Why does this formula give the Payment amount? - Answer - Present Value Interest
Factor of Annuity. APV = PMT X PVIFA. So, dividing by the Present Value Interest
Factor undo's the product, and gives you the PMT.
Show the formula for calculating the Annuity Present Value using the Annuity Future
Value, Discount Rate, and # of Periods in Excel Notation - Answer - APV = AFV/(1+r)^t
State the effect of increasing the payment amount on the APV and AFV - Answer - APV
= increase in FV
AFV = increase in FV
Can the constant discount rate method be used to calculate NPV in the general case
where the discount rate changes over time? Why/Why not? - Answer - No, because the
NPV function & constant discount formula only allow for one constant discount rate.
Fully explain the NPV function used to calculate the NPV in cell b21 - Answer - The
NPV function in Excel assumes that Year 0 cash flow occurs at the end of the year
instead of the beginning, so you add it to the NPV of the remaining years using the NPV
, function. The NPV function takes the cash flows from each year, discounts it by the
nominal discount rate (which is found by compounding the inflation rate & the real
discount rate) and summing them up (including the initial investment)
Is the NPV of the project shown acceptable for investment? Why/Why not - Answer - A
project is acceptable if the NPV is positive
If we add the inflation rate and the real discount rate to get the nominal discount rate,
how will it be different from the formula in b9? - Answer - It won't give us the
effect/measurement of the increase in the real discount rate due to inflation
Why is the coupon bond yield to maturity close to, but not exactly equal to, the yield to
maturity of the four-year treasury strip? - Answer - Because the yield of the coupon
bond is a weighted average of the yields for each of the 8 periods. The biggest cash
flow is on the maturity date, and the biggest weight in the weighted average is on that
date. So, it's closest to the yield at the maturity date. But now the same.
State whether the EAR convention results in a higher or lower bond price than the APR
convention in and give the reason for this. - Answer - higher bond price because it is a
lower discount rate, which from the laws of discounting cash flows results in a higher
bond price.
State and explain the differences between the curvatures of the yield to maturity curve
and the forward rate curve. - Answer - Forward rates curve is not smooth, whereas the
Yield Curve is a compounded average of the Forward rates so it has a smoother curve.
Fully explain the formula for calculating the forward rate of the Ten Year Treasury Strip.
- Answer - Take the 10 year yield to maturity and divide it by the 5 year rate
compounded for 5 years to give the 5 year compounded value between years 5 and 10.
Then take the 5th root to convert it to annual rate, and subtract 1 for the principal.
Explain why the yield curve often has lower yields at the short end and the long end due
to market segmentation. - Answer - There is more demand for short-term bonds for
cash management, which increases prices of short term bonds, resulting in low yields at
the short end.
List the static features regarding the shape, level, and curvature of the U.S. yield curve.
- Answer - A. Four different shapes: upward sloping, downward sloping, flat, and
humped.
