FIN111 Lecture Notes - Lecture 6: Effective Interest Rate, Annual Percentage Rate, Cash Flow

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10 May 2018

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• Future and present values of multiple cash flows

• Valuing level cash flows: annuities and perpetuities

• Comparing rates: the effect of compounding periods

• Loan amortisation (ordinary annuity)

Valuing level cash flows, annuities and perpetuities

Annuity: finite series of equal payments that occur at regular intervals.

• If the first payment occurs at the end of the period, it is called an ordinary annuity.

• If the first payment occurs at the beginning of the period, it is called an annuity due. (only

understand the concept for annuity due, not calculations)

Perpetuity: infinite series of equal payments. (last forever)

PVA - present value annuities

FVA- future value annuities

CF- cash flow

Perpetuities:

• An annuity in which the cash flows continue forever.

• Formula:

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Document Summary

Future and present values of multiple cash flows: valuing level cash flows: annuities and perpetuities, comparing rates: the effect of compounding periods. Annuity: finite series of equal payments that occur at regular intervals. If the first payment occurs at the end of the period, it is called an ordinary annuity. If the first payment occurs at the beginning of the period, it is called an annuity due. (only understand the concept for annuity due, not calculations) Perpetuity: infinite series of equal payments. (last forever) Perpetuities: an annuity in which the cash flows continue forever. In addition to constant cash flow streams, one may have to deal with cash flows that grow at constant rate over time: these cash flow streams called growing perpetuities. Effective annual rate (ear): this is the actual rate paid (or received) after accounting for compounding that occurs during the year.

Related Questions

Question 1 5 pts

0 multiple_choice_question 22046808

The internal rate of return (IRR) is the interest rate that sets the net present value of the future cash flows equal to ________.

Question 2 5 pts

On a timeline, the space between date 0 and date 1 represents the _______ between dates. Letâs assume it is the first year of the loan. Date 0 is the beginning of the first year, and date 1 is the end of the first year.

Question 3 5 pts

As the interest rate __________, present value decreases.

Question 4 5 pts

The present value (PV) of a stream of cash flows is the _______ the present values of each individual cash flow

Question 5 5 pts

When a constant cash flow will occur at regular intervals for a finite number of periods of time, it is called a(n) __________.

Question 6 5 pts

Edit this Question Delete this Question

0 multiple_choice_question 22047052

There are two basic types of annuities:

Discounted and compounded annuities

Ordinary annuities and annuities due.

Future value and present value annuities

None of the above

Question 7 5 pts

The NPV measures the ______ change in shareholder wealth that arises from undertaking a project.

Question 8 5 pts

The Net Present Value rule implies that we should compare a projectâs net present value (NPV) to ________

Question 9 5 pts

To endow a perpetuity is the same as calculating the present value (PV) of a perpetuity. Say you want to endow an annual graduation party at your alma mater. You want the event to be a memorable one, so you budget $30,000 per year forever for the party. If the university earns 8% per year on its investments, and if the first party is in one yearâs time, how much will you need to donate to endow the party?

The formula for PV of a perpetuity = C\r; = $30,000 \ 0.08; =

Question 10 5 pts

With an Ordinary Annuity, payments are required at the ________ of each period. An example of this is bonds which usually pay coupon payments at the end of every six months until the bond's maturity date.

beginning

middle

end

payments are not required

limemacaw827

Which of the following statements is CORRECT?
Answer

a. The cash flows for an ordinary (or deferred) annuity all occurat the beginning of the periods.

b. The cash flows for an annuity must all be equal, and they mustoccur at regular intervals, such as once a year or once amonth.

c. If a series of unequal cash flows occurs at regular intervals,such as once a year, then the series is by definition anannuity.

d. The cash flows for an annuity due must all occur at the ends ofthe periods.

e. If some cash flows occur at the beginning of the periods whileothers occur at the ends, then we have what the textbook defines asa variable annuity.

Question:- 1) Which one of the following statements is true about an amortized loan? A. With an amortized loan, a smaller proportion of each monthâs payment goes toward interest in the early periods. B With an amortized loan, a bigger proportion of each monthâs payment goes toward interest in the later periods. C. With an amortized loan, a bigger proportion of each monthâs payment goes toward interest in the early periods. D With an amortized loan, the proportion of the loan that goes toward interest does not change at any point. Question:- 2) Your investment in a small business venture will produce cash flows that increase by 15 percent every year for the next 25 years. This cash flow stream is called: A. an annuity due. B. a growing perpetuity. C. an ordinary annuity. D. a growing annuity. Question 3) If your investment pays the same amount at the end of each year forever, the cash flow stream is called: A. an ordinary annuity. B. a perpetuity. C. an annuity due. D. none of the above. Question:- 4) Use the following table to calculate the expected return for the asset. Return Probability 0.10 0.30 0.20 0.50 0.25 0.25 A. 15.0% B. 17.5% C. 18.75% D. 19.25%

FIN111 Lecture Notes - Lecture 6: Effective Interest Rate, Annual Percentage Rate, Cash Flow

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