1. You purchased (invested in) a financial product that will pay you $500,000 every six months for 4 years, starting exactly six months from today. The relevant interest rate is 12% per year, compounded quarterly.

Given the frequency of payments and the quarterly compounding interest, which of the following interest rates is closest to the rate you must use to discount the first cash flow you will receive?

3%

4%

6%

12%

2. The financial product that you purchased will be phased out (eliminated) and replaced with a similar product which has only 4 annual payments of $1,000,000, with the first payment arriving exactly one year from now. From your perspective, is the new contract more, or less valuable than the old contract?

The new contract is more valuable.

The two contracts are equally valuable.

The new constract is less valuable.

2. In a different scenario, the financial product you invested in initially will be eliminated and replaced with a similar contract. This time, however, you will receive four $1,000,000 payments, with the first one due in exactly 9 months. The second, third, and fourth payments will each be made exactly one, two, and three years after the first payment, respectively (i.e., payments following the first one will be made at the ends of successive one-year intervals following the first payment).

To make the exchange fair, if the value of the new contract to you is greater than that of the old contract, you will have to pay the difference in contract values to your counterparty. Should the value of the new contract be less than the value of the old contract, you will receive the difference in contract values from your counterparty. If the old and new contract have the same value, no money exchanges hands.

What will happen?

• The answer cannot be determined.
• No money will exchange hands.
• You will receive a payment from your counterparty.
• You will make a payment to your counterparty.