Tuesday, April 25, 2017

Simple Financial Modeling examples

Someone recently asked me what financial modeling entailed. This blog posts problems that involve some simple model building to answer questions one may come across in day to day life so people can better relate to what model building in finance might involve. I will add to this post over time, as more interesting problems occur to me.

  1. You want to buy a car, say a new Toyota Sienna priced at $33,500. The dealer gives you two options - you can purchase the car with $1500 off all cash, or at the stated price with $10,000 down and 4% financing over 10 years - this is an amortized loan for the remainder, just like a mortgage. You manage to negotiate the price down to $31,500 and $32,000 for the two options respectively. Which option should you pick if you know you have the ability to generate 8% annual returns with your capital on average, in the stock market assuming you have $31,500 to spend at the moment?
  2. You are considering getting an MBA. Going full-time involves losing one or two years of pay (depending on the length of the program), and top programs cost a lot of money (a typical M7 MBA costs around ~$150,000). Of course, a high quality degree gives you qualifications that open doors to various industries and jobs with a potentially much higher pay. And then there is the part-time MBA option where you can keep your paycheck coming, but where the course takes longer to complete. How do you decide whether or not to get the degree, the comparative costs vs benefits of an MBA vs. for example a CFA if you are looking at finance careers, and then, which kind of MBA to get if you decide to go that way?
  3. You want to invest in a stock. You have to determine whether the stock is trading cheap or rich to its valuation, and at what point to buy (since buying things rich means you will likely see lower returns on your investment). You also want to ensure your money is best spent invested in this stock vs in other potential investments also open to you. And you want to ensure you are OK with the volatility this stock's price action is likely to see so you will not be a panic seller.

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