Reply To: [ILA Track] Intro to ILA Module Exercise Task 3: Actuarial Pricing Memo

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#1586
Steve Zeske
Participant

If you read the two paragraphs in section 11.6.2.3 following the example in the textbook where both positive and negative cashflows are discounted using the 7% hurdle rate, it says it is wrong to use the same rate for discounting both types of cashflows. Instead, it says to use the more generalized 11.5.3 formula, which allows for different discount rates. It sounds like you ended up using that formula anyway.

I got 11.3% (after rounding) for the ROI, so we’re only off by 0.1%. I used the IRR function in Excel to calculate ROI since the ROI in the textbook is essentially an IRR measure. I did not directly use the 11.5.3 formula for ROI. It’s possible that there are timing differences in the Excel IRR formula (cashflows assumed to be at the beginning of the year v. end of the year) that may result in the small difference.

For the baseline 40-year horizon EV, I used the 11.5.3 formula directly and got $16.10. I assumed distributable earnings occurred at the beginning of the year so I could use the 11.5.3 formula exactly as it is in the textbook. Although, I’m not sure this is the exact right approach because the projections assume some cashflows occur at the beginning of the year and some occur in the middle of the year. What cashflow timing assumption did you use? If you assumed middle or end of the year earnings, your distributable earnings would be discounted more. That may explain why your EV is a bit less than mine: $14.64.

For NB Strain, I calculated it exactly as you described.