FM11 Ch 02 Time Value of Money

2-1  Future value  Present value  Rates of return  Amortization Chapter 2 Time Value of Money 2-2 Time lines show timing of cash flows. CF 0 CF 1 CF 3 CF 2 0 1 2 3 i% Tick marks at ends of periods, so Time 0 is today; Time 1 is the end of Period 1; or the beginning of Period 2. 2-3 Time line for a $100 lump sum due at the end of Year 2. 100 0 1 2 Year i% 2-4 Time line for an ordinary annuity of $100 for 3 years. 100 100100 0 1 2 3 i% 2-5 Time line for uneven CFs: -$50 at t = 0 and $100, $75, and $50 at the end of Years 1 through 3. 100 50 75 0 1 2 3 i% -50 2-6 What’s the FV of an initial $100 after 3 years if i = 10%? FV = ? 0 1 2 3 10% Finding FVs (moving to the right on a time line) is called compounding. 100 2-7 After 1 year: FV 1 = PV + INT 1 = PV + PV (i) = PV(1 + i) = $100(1.10) = $110.00. After 2 years: FV 2 = FV 1 (1+i) = PV(1 + i)(1+i) = PV(1+i) 2 = $100(1.10) 2 = $121.00. 2-8 After 3 years: FV 3 = FV2(1+i)=PV(1 + i) 2 (1+i) = PV(1+i) 3 = $100(1.10) 3 = $133.10. In general, FV n = PV(1 + i) n . 2-9 Three Ways to Find FVs  Solve the equation with a regular calculator.  Use a financial calculator.  Use a spreadsheet. 2-10 Financial calculator: HP10BII  Adjust display brightness: hold down ON and push + or  Set number of decimal places to display: Orange Shift key, then DISP key (in orange), then desired decimal places (e.g., 3).  To temporarily show all digits, hit Orange Shift key, then DISP, then = [...]... annuity due? Ordinary Annuity 0 2 3 PMT PMT PMT 1 i% 1 2 3 PMT PMT Annuity Due 0 i% PMT PV FV 2-27 What’s the FV of a 3-year ordinary annuity of $100 at 10%? 0 10% 1 2 100 100 3 100 110 121 FV = 331 2-28 FV Annuity Formula  The future value of an annuity with n periods and an interest rate of i can be found with the following formula: n (1 + i) − 1 = PMT i 3 (1 + 0.10) − 1 =100 = 331 0.10 2-29 Financial... no lump sum PV, so enter 0 for present value 2-31 Spreadsheet Solution  Use the FV function: see spreadsheet  = FV(Rate, Nper, Pmt, Pv)  = FV(0.10, 3, -100, 0) = 331.00 2-32 What’s the PV of this ordinary annuity? 0 1 2 3 100 100 100 10% 90.91 82.64 75.13 248.69 = PV 2-33 PV Annuity Formula  The present value of an annuity with n periods and an interest rate of i can be found with the following... shift, then DISP, then (period key)  Set decimal mode: Hit ORANGE shift, then /, key Note: many non-US countries reverse the US use of decimals and commas when writing a number 2-12 HP10BII: Set Time Value Parameters  To set END (for cash flows occuring at the end of the year), hit ORANGE shift key, then BEG/END  To set 1 payment per period, hit 1, then ORANGE shift key, then P/YR 2-13 Financial... safety enter PMT = 0 Set: P/YR = 1, END 2-15 Spreadsheet Solution  Use the FV function: see spreadsheet in Ch 02 Mini Case.xls  = FV(Rate, Nper, Pmt, PV)  = FV(0.10, 3, 0, -100) = 133.10 2-16 What’s the PV of $100 due in 3 years if i = 10%? Finding PVs is discounting, and it’s the reverse of compounding 0 PV = ? 10% 1 2 3 100 2-17 Solve FVn = PV(1 + i )n for PV: PV = FVn  1   n = FVn   1+ i... -75.13 Put in $75.13 today, take out $100 after 3 years 2-19 Spreadsheet Solution  Use the PV function: see spreadsheet  = PV(Rate, Nper, Pmt, FV)  = PV(0.10, 3, 0, 100) = -75.13 2-20 Finding the Time to Double 0 -1 20% 1 2 FV = PV(1 + i)n $2 = $1(1 + 0.20)n (1.2)n = $2/$1 = 2 nLN(1.2) = LN(2) n = LN(2)/LN(1.2) n = 0.693/0.182 = 3.8 ? 2 2-21 Financial Calculator INPUTS N OUTPUT 3.8 20 I/YR -1 PV... formula: 1 1n (1 + i) = PMT i 1 13 (1 + 0.10) =100 = 248.69 0.10 2-34 Financial Calculator Solution INPUTS 10 N OUTPUT 3 I/YR 100 PV 0 PMT FV -248.69 Have payments but no lump sum FV, so enter 0 for future value 2-35 Spreadsheet Solution  Use the PV function: see spreadsheet  = PV(Rate, Nper, Pmt, Fv)  = PV(0.10, 3, 100, 0) = -248.69 2-36 Find the FV and PV if the annuity were an annuity due 0 1 2 10% . 2-1  Future value  Present value  Rates of return  Amortization Chapter 2 Time Value of Money 2-2 Time lines show timing of cash flows. CF 0 CF 1 CF 3 CF 2 0 1 2 3 i% Tick marks at ends of periods,. of periods, so Time 0 is today; Time 1 is the end of Period 1; or the beginning of Period 2. 2-3 Time line for a $100 lump sum due at the end of Year 2. 100 0 1 2 Year i% 2-4 Time line for. annuity of $100 for 3 years. 100 100100 0 1 2 3 i% 2-5 Time line for uneven CFs: -$50 at t = 0 and $100, $75, and $50 at the end of Years 1 through 3. 100 50 75 0 1 2 3 i% -50 2-6 What’s the FV of