Академический Документы
Профессиональный Документы
Культура Документы
BATCH:21(SEC-C)
CONCEPT
I. Why Time Value
II. Future Value of a Single Amount
III.Future Value of an Annuity
IV. Present Value of a Single Amount
V. Present Value of an Annuity
VI. Intra-year Compounding and Discounting
FUTURE VALUE
CONCEPT
FV1 PV Int PV PV X r PV (1 r )
FV2 FV1 (1 r ) PV (1 r )(1 r ) PV (1 R )
FUTURE VALUE
PRESENT VALUE
The present value of a cash flow due N years in the future is the amount which, if it were
on hand today, would grow to equal the given future amount. Finding present value is
called discounting.
DOUBLING PERIOD
Thumb Rule :
Rule of 72
72
Doubling period =
Interest rate
Interest rate : 15 percent
72
Doubling period =
15
= 4.8 years
rate
= 4.95 years
6%
0.943
8%
0.926
10%
12%
0.909
14%
0.893
0.890
0.857
0.826
0.797
0.770
0.792
0.735
0.683
0.636
0.592
0.705
0.630
0.565
0.507
0.456
0.626
0.540
0.467
0.404
0.351
10
0.558
0.463
0.386
0.322
0.270
12
0.497
0.397
0.319
0.257
0.208
0.877
ANNUITY DUE
(n 1)(Y)
n(Y)
Ordinary
Annuity
0(Y)
Annuity
Due
A
0(Y)
1(Y)
2(Y)
A
1(Y)
2 (Y)
A
(n 1)Y
Thus,
Annuity due value = Ordinary annuity value (1 + r)
This applies to both present and future values
A
n (Y)
31/12/01
31/12/01
31/12/02
31/12/02
31/12/03
31/12/03
100(1.05)
2 100(1.05)
100
(
1
.
05
)
2
100(1.05)
Future value of
Deposit
at the
end of
the year
01/01/02
01/01/01 01/01/02
01/01/01
01/01/03
01/01/03
100100
(1.05
(1.)05) 2
100(1.05)
100(1.05)
3
100(1
.05
100
(1.)
05) 3
Since each payment occurs one period earlier with an annuity due, the payments
will all earn interest for one additional period.
FVADue FVAOrd (1 r ) FVADue Rs 315.25(1.05) Rs331.01
flows. Methods for solving the present value of an ordinary annuity are under.
31/12/01
31/12/01
100(1.05) 1
Payment
received
at
the end
Pr esent value of
31/12/02
31/12/02
100(1.05) 2
31/12/03
31/12/03
100(1.05) 3
1 n
.....( 2)
01/01/02
01/01/02
100(1.05) 1
01/01/03
01/01/03
100(1.05) 2
Since each payment for an annuity due occurs one period earlier, therefore, the PV
of an annuity due, will be greater than that of a similar ordinary annuity.
PVn =
+
(1 + r)
(1 + r)2
n
At
=
t =1
(1 + r)t
Year
1
2
3
4
5
6
7
8
+
(1 + r)n
0.893
0.797
0.712
0.636
0.567
0.507
0.452
0.404
893
1,594
1,424
1,908
1,701
2,028
1,808
2,020
13,376
payment
PVIFA
r ,
t 1
A
(1 r ) t
CONCEP
T
( Eq1)
( Eq 2 Eq1)
A
, As A(1 r ) vanishes
r
1 0.12(12%)
Effective Interest Rate with Annual compounding
1
1
Effective Interest Rate with HLY compounding
0.12
1 0.1236(12.36%)
1
2
Effective Interest Rate with Qtly compounding
0.12
1
1 0.1255(12.55%)
Effective Rate %
Nominal
Annual
Semi-annual
Quarterly
Rate %
Compounding
Compounding
Compounding
8
8.00
8.16
8.24
8.30
12
12.00
12.36
12.55
Monthly
Compounding
12.68
mxn
Suppose you have decided to deposit Rs.30,000 per year in your Public
Provident Fund A/C for 30 years. What will be the accumulated amount in
your Public Provident Fund Account at the end of 30 years if the interest
rate is 11 percent ?
The accumulated sum will be :
Rs.30,000 (FVIFA11%,30yrs)
= Rs.30,000
(1.11)30 - 1
0.11
= Rs.30,000 [ 199.02]
= Rs.5,970,600
FVIFA
n=5, r =12%
(1+0.12)5 - 1
=
0.12
= 6.353
n=6, r=14%
= (1+0.14)6 1
= 8.536
0.14
= Rs.585.75 lac
Rs.8,000
= 8.000
Rs.1,000
2. Look at the FVIFA
r,n
until you find a value close to 8.000. Doing so, we find that
FVIFA12%,6 is 8.115 . So, we conclude that the interest rate is slightly
below 12 percent.
n=?,12%
= 1,000,000
1.12n 1
= 10,00,000
0.12
1.12n - 1 =
10,00,000
x 0.12
= 2.4
50,000
1.12n
2.4 + 1 = 3.4
n log 1.12
= log 3.4
n x 0.0492
= 0.5315
0.5315
0.0492
(PAGE:152)
Present
value of
an
n
(1+r)
annuity = A
r
Value of PVIFA
Yr 6 %
r,n
8%
10 %
0.926
12 %
0.909
14 %
0.943
0.893 0.877
1.833
1.783
1.737
1.690
1.647
3.465
3.312
3.170
3.037
2.914
4.917
4.623
4.355
4.111
3.889
6.210
5.747
5.335
4.968
4.639
7.360
6.710
6.145
5.650
5.216
12 8.384
7.536
6.814
6.194
5.660
where
r = 15%, n = 5 years
Beginning
Amount
(1)
Annual
Interest
Instalment
( 2)
(3)
Principal
Repayment
(2)-(3) = (4)
298,312
150,000
148,312
851,688
851,688
298,312
127,753
170,559
681,129
681,129
298,312
196,143
484,986
484,986
298,312
727,482
225,564
259,422
259,422
298,312
38,913
259,399
23*
( 1)-(4) = (5)
Interest is calculated by multiplying the beginning loan balance by the interest rate.
Balance
1 1,000,000
102,169
Remaining
A X
0.01
A = Rs.12,002
A cash flow that grows at a constant rate for a specified period of time is a growing
annuity. The time line of a growing annuity is shown below:
A(1 + g)
0
A(1 + g)
2
A(1 g ) 3
A(1 + g)n
n
The present value of a growing annuity can be determined using the following formula :
(1 + g)n
1
PV of a Growing Annuity = A (1 + g)
(1 + r)n
r-g
The above formula can be used when the growth rate is less than the discount rate (g < r)
as well as when the growth rate is more than the discount rate (g > r). However, it does
not work when the growth rate is equal to the discount rate (g = r) in this case, the
present value is simply equal to n A.
GROWING ANNUITY
The formula for the present value of a growing annuity(PVGA) is derived as follows:
(1-2)
1.0820
PV of teak = Rs 500 x 100,000 (1.08)
1.1520
0.15 0.08
=Rs.55,17,36,683
SUMMING UP
Money has time value. A rupee today is more valuable than a rupee a year
hence.
The general formula for the future value of a single amount
Future value = Present value (1+r)n
is :
The value of the compounding factor, (1+r)n, depends on the interest rate (r)
and the life of the investment (n).
According to the rule of 72, the doubling period is obtained by dividing 72 by
the interest rate.
The general formula for the future value of a single cash amount when
compounding is done more frequently than annually is:
Future value = Present value [1+r/m]m*n
GOOD WISHES
TO ALL