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Lecture

# Lecture2. Time value of money.docx

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Department
Course
Professor
Irvin Pestano
Semester
Summer

Description
Chapter 4. Time value of money Process of calculating future values is compounding, while process of calculating present value is discounting. Multiple cash flows- Annuity, perpetuaty...etc. Problem 1. You want to buy a computer , there are two payment options: i. Pay \$800 today, or ii. Pay \$1000 one year from today. 0------------------------------------------------1 800 1000 Interest is \$200, i.e. @ 25% A dollar today is worth \$1.25 a year from now ( 1000/800) A dollar in future is worth 800/1000= 80cents. Simple Interest: Interest is only earned on the investment Compound Interest: Interest is reinvested and therefore interest is earned on the interest and the principle. FV= PV( FVIF r, t) FVIF Future value interest factor FV= PV( 1 +r)^t For greater returns, we should invest it at higher interest rate as well as for longer period of time. How long would it take for money to double: n= 72/r PV= FV ( PVIF r, t) Present value interest factor PV= FV/ (1+r)^t Zero coupon bonds i. Pays no interest ii. Pays face value (assumption \$1000) How much would you pay for a zero coupon bond which matures in 12 years ? you require a return of 13.26%. The pres
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