time value of money, interest, discount rates

Page history last edited by brian 2 yrs ago

Interest

 

payment for the use of cash

it is like a "rent" charged for the use of an asset (you pay a rent to use the house asset of someone else, just as you pay a rent to use their cash).

 

key concept - $10 today is worth more than $10 a year from now (because you could put it in the bank and earn interest)

 

amount borrowed = principal

 

coumpoud interst - interest is added to principal each period

simple interest - ignores interst on previously earned interest

 

 

 

Present Value

calculator: http://formularium.org/en/10.html?go=44.281

 

The PV of a series of payments in the future tells us how much we should spend today. How much the future series of cash flows is worth today.

 

In general - the higher the interest rate, the lower the NPV, so

For bonds - the higher the interest rate (market rates), the lower the value of the bond

 

 

Future Value

$1 today at 12% interest, will be worth $1.12 in a year, and $1.25440 in two years.

Fn = P(1+r)^n

Fn = future value

P = present investment value (one time)

r = interest rate per period

n = number of periods from today

 

 

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