Real-Life Math
Financial planning and math go hand in hand. You can't do one
without the other. Financial planners do math when they figure out commissions,
percent returns, interest rate returns -- and the list goes on.
"It's
important to be comfortable working with figures," says planner Nicole Whitton.
One
day, a young couple comes into your office and tells you they want to start
putting away some money for a down payment on a house. They've done some
homework and have decided to invest in mutual funds.
They've narrowed
down their choices of mutual funds to two -- QuickGrow and Megabucks. They're
planning on using the money in three years.
QuickGrow has averaged
a rate of return of 14 percent over the last 3 years. Megabucks has averaged
a return of 13 percent over the same period.
Temple requires a commission
to be taken off the investment money the first time it is invested. This is
commonly called a front-end load. Megabucks' commission is 4 percent.
QuickGrow
is a "no-load" fund, which means that there is no commission taken off the
investments.
Both are good, solid mutual funds. But your clients want
to know which one will give them a better rate of return.
So you have
to figure out what the "real" rate of return of the Megabucks mutual fund
is.
Using this formula, calculate the real rate of return for Megabucks.
Real rate of return = (1 + i) x [1- (x / n)]
- 1
i = the published rate of return
x = the percentage
of front-end load paid
n = the number of years the investments
are held
So which fund would you advise the couple to invest in?