# BA 103 Lec 4 - UGBA 103: Introduction to Finance Lecture 4:...

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UGBA 103: Introduction to Finance Lecture 4: (2/6/08) Preferences and NPV NPV associated with arbitrage (-) measures amount of cash, means we pay it out. If (+), means we receive it. Question: what is the NPV of each of these investments? Which is best one? Best is one with highest NPV, based on greed. Assumption: Greed prefer more to less Interest rate is 20% B is best (PV = 144/1.2=120, NPV=100), because highest NPV It dominates other investments can give you same cash flow today, but more tomorrow. Ex if D’s today’s cash flow is 42, and PV of tomorrow’s is 60, D is better than A Preferences and NPV: compare A with (B + borrowing) 2 possibilities: buy A, or do B and borrow money. Conclusion: as long as we can borrow at 20%, irrespective of our preferences, we will prefer B to A \$62 is often called principal (today’s cash flow for B) B has higher net present value than A A gives you more money now, but B gives more in future. If you borrow at 20%, makes it easier to see. Preferences and NPV: Compare C with (B + lending) IF B+ lending, pay \$100 today, and in the end of the year, get back \$240 (vs. \$225 for C) If difference between borrowing and lending rates are large, hard to find arbitrage situation

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## This note was uploaded on 05/11/2008 for the course UGBA 103 taught by Professor Berk during the Spring '07 term at University of California, Berkeley.

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BA 103 Lec 4 - UGBA 103: Introduction to Finance Lecture 4:...

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