Question

You have $10,000 in cash. You can deposit it today in a mutual fund earning 8% interest, compounded quarterly. Or, you can wait, enjoy some of it, and invest $9,000 in your classmate’s start-up business in 2 years. Your classmate is promising you a return of 10% APR on your investment. Whichever investment you choose, you will need to cash in at the end of 10 years from today. Assume your classmate is trustworthy and both investments carry the same risk! Which one will you choose? (Please do not base your answer on how much fun you will have spending that $1,000 over 2 years!)

Answer 1

For option A investing in mutual fund

Principal amount= $10,000

interest =8% compounded quarterly

time = 10 years

So Future value = PV*(1+r)^n

= 10000*(1+8%/4)^(4*10) (since interest is compounded qurarterly hence we wil divide interest rate by 4 and multiply time period by 4)

=10000*1.02^40

= $22,080.4

Now for option B PV = 9000

rate =10%

time period = 9000

so FV = 9000*(1+10%)^9

=9000*1.1^9 =21,221.53

Since cash after 10 years is more for option A hence I will chose option A