Question

f an company offered you $1000 a year payment forever if you deposited $20,000 today, what would be the rate of return and would you take it? Why or why not?

Answer 1

The payment will be in the form of perpetuity.

If we know the PV and periodic payment we can calculate rate of return, or required rate of return.

PV of perpetuity = Periodic payment/ rate of return

20000 = 1000/ X

X = 1000/ 20000

    = 0.05 or 5%

The rate of return on the deposit is 5%, so if you have any other investment that offer more return than 5%, we should accept that option.

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Hope this answer your query.

Feel free to comment if you need further assistance. J