Formula for Rate of Return on a Loan
The rate of return on a loan measures its profitability by comparing the net gain to the original amount loaned. It is calculated by subtracting the loan principal from the total amount the borrower actually repays, and then dividing by the principal. The primary formula is: . This equation can be algebraically rearranged to express the relationship in terms of the gross return factor (1 + rate of return), which is equal to the ratio of the total repayment to the original loan amount: $1 + \text{rate of return}=\frac{\text{total amount borrower pays back}}{\text{loan}}$.
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Formula for Rate of Return on a Loan
General Formula for Rate of Return on Any Asset or Investment
An individual lends a friend $500. After one year, the friend repays the entire loan along with an additional $40. What was the rate of return on this loan for the individual who lent the money?
Investment Decision Analysis
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An investor buys an asset for $150 and sells it one year later for $165. True or False: The rate of return on this investment is 10%.
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An investor purchases a share of stock for $2,000. One year later, the investor sells the stock for $2,150. The rate of return on this investment is ____%. (Please provide the numerical value only.)
You are given the initial purchase price of an asset and the final price at which it was sold. Arrange the following steps in the correct logical order to determine the asset's rate of return.
Analyzing Investment Scenarios
An investor is evaluating two separate investments made over the same time period.
- Investment X: An initial cost of $200 results in a final value of $230.
- Investment Y: An initial cost of $500 results in a final value of $560.
Based on the concept of profitability as a proportional gain, which statement provides the most accurate comparison of these two investments?
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Formula for Rate of Return on a Loan
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The terms 'rate of return' and 'interest rate' can be used interchangeably for all financial assets because they represent the same concept of earnings on an investment.
Distinguishing Investment Earnings
An investor buys a share of a company for $100. During the year, the company pays a $2 dividend to the investor. At the end of the year, the investor sells the share for $110. Which statement most accurately describes the investor's earnings?
An investment advisor makes the following two statements to a client:
- Statement 1: 'If you deposit $1,000 into a 1-year Certificate of Deposit (CD) with a 4% interest rate, your rate of return for that year will be 4%, because the interest rate dictates the return on this type of guaranteed asset.'
- Statement 2: 'If you buy a share of stock for $1,000, its rate of return is also determined by an interest rate, but one that is set by the stock market's overall performance.'
Based on the conceptual distinction between an interest rate and a rate of return, which of the following is the best evaluation of the advisor's statements?
Match each financial asset with the description that best characterizes how its total return is determined.
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Learn After
Rate of Return and Loss in a Total Default Scenario
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Relationship Between Rate of Return, Interest Rate, and Default Risk
Loan Rate of Return as a Specific Case of a General Investment Return Formula
A financial institution provides a loan of $20,000 to a client. At the end of the loan term, the client has paid back a total of $21,500. What was the financial institution's rate of return on this loan?
Comparing Loan Profitability
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A lender issues several loans, each with a principal of $10,000. Match each repayment scenario with the lender's resulting rate of return.
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A financial firm issues two different loans, Loan X and Loan Y, for the exact same principal amount. After one year, the total amount repaid for Loan X is greater than the total amount repaid for Loan Y. Based solely on this information, what can be concluded about the rates of return for the two loans?
A bank manager is reviewing a loan file to determine its profitability. The file shows that the borrower made a total repayment of $55,000. To accurately calculate the lender's rate of return on this loan, which single piece of information is essential?
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