Suppose that John can buy a savings bond for $500 that matures in ten years and pays John $1,000 with certainty. He is indifferent between this bond and another $500 bond that has some risk but on which the interest rate is 5% higher. How much, to the nearest penny, does the riskier bond pay in ten years?
A)$1,275.91
B)$1,422.63
C)$1,577.69
D)$1,631.17

Question

Quizplus · Accepted Answer

The risk-free bond doubles the investment in ten years, implying a 7.18% annual return. The riskier bond must offer a 5% higher return, or 12.18% annually. Using the formula for compound interest, the future value of the riskier bond is $500 * (1 + 0.1218)^10 = $1,577.69.

Suppose That John Can Buy a Savings Bond for $500