Finance ch 4

  1. Future Value
    refers to the amount of money an investment will grow to over some period of time at some given interest rate

    cash value of an investment at some time in the future
  2. Single period investment
    • Investment = (1+r)
    • where r= interest rate, rate of return or discount rate per period
  3. compound interest
    earning interest on interest

    Future value interest factor, or future value factor (FVIF) = (1 * r)^t

    • ex: $100 worth after 5 yrs with 10% interest
    • (1+.10)^5= 1.1^5= 1.6105
    • 100*1.6105= $161.05

    increases each year
  4. simple interest
    interest is not reinvested so interest earned each period only on the original principal

    - constant each year
  5. present value
    the current value of FCF (future cash flows) discounted at the appropriate discount rate

    • Single period
    • PV= $1* [1/(1+r)]
    • = $1/(1+r)

    • Mupltiple periods
    • PV= $1*[1/(1+r)^t]
    • =$1/(1+r)^t
  6. Discount rate
    the rate used to calculate the present value of FCFs

  7. discounted cash flow (DCF)
    valuations calculating the present value of a future cash flow to determine its value today
  8. Discount rate
    • Discount factor
    • Present value interest factor (PVIF)
    • Present value factor
  9. for a given length of time, the higher the discount rate is, the lower is the present value
    PV and discount rates are inversely related

    increasing the dicount rate, decreases the present value
  10. Present value factor is the reciprocal of the future value factor
    • FCF = (1+r)^t
    • PVF = 1/(1+r)^t

    easy way to calculate a PVF is to first calculate the FVF and then press the 1/x key to flip it over

    PV*(1+r)^t= FV

    • PV= FV/(1+r)^t
    • FV*[1/(1+r)^t]
  11. Rule of 72
    For reasonable rates of return, the time it takes to double your money is given approx by 72/r%

    (fairly accurate for discount rates in the 5-20% range)

    ex: potential investment to double your money every ten years, what is the rate of return? 72/10=7.2%

    want to purpose an asset costing 50K, currently have 25K, 12%, how long will it take? 72/12= 6yrs at 12%
Card Set
Finance ch 4
Finance ch 4