Common FM Mistakes
The most frequent errors candidates make on Exam FM: Financial Mathematics. Knowing these pitfalls in advance helps you avoid losing easy points on exam day.
Mixing up nominal and effective interest rates
A nominal rate of i^(m) compounded m times per year gives an effective rate per period of i^(m)/m, not i^(m). The effective annual rate is (1 + i^(m)/m)^m - 1. This conversion error is the single most common FM mistake.
Using the wrong annuity mode on the calculator
The BA-II Plus defaults to END mode (annuity-immediate). For annuities-due, you must switch to BGN mode. Forgetting this switch gives answers that are off by one period of interest.
Not clearing the TVM worksheet between problems
If you solve a problem with N=20 and then start a new problem without clearing, the old N=20 value persists. Always press 2nd CLR TVM before starting a new TVM calculation.
Confusing coupon rate and yield rate for bonds
The coupon rate determines the payment amount: Fr. The yield rate determines the discount factor. Swapping these in the bond price formula gives a drastically wrong answer.
Forgetting to adjust for payment timing in varying annuities
An increasing annuity-immediate has payments 1, 2, 3, ... starting at the end of the first period. An increasing annuity-due shifts all payments one period earlier. Using the wrong formula changes the present value.
Incorrect sign conventions in NPV calculations
Cash inflows and outflows must have opposite signs. When using the BA-II Plus, entering PV and FV with the same sign produces incorrect results. Think of the problem from one party s perspective throughout.
Applying the wrong duration formula
Macaulay duration is measured in time units. Modified duration is Macaulay duration divided by (1+y). Dollar duration is modified duration times price. Using the wrong measure in an immunization problem leads to incorrect asset-liability matching.
Mishandling callable bonds
A callable bond should be priced at the worst yield for the investor. If the bond is at premium, price to the earliest call date. If at discount, price to maturity. Ignoring the call feature overstates the bond value.
Errors in sinking fund calculations
Sinking fund payments accumulate at the sinking fund rate, not the loan rate. Confusing these two rates is common when the problem specifies different rates for the loan and the sinking fund.
Not converting periods consistently
If coupon payments are semiannual, then N is the number of semiannual periods and I/Y is the semiannual yield. Mixing annual and semiannual values in the same calculation produces an incorrect bond price.