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Unformatted text preview: Primbs/Investment Science 1 Lecture 1: Interest Lecture 1: Interest Reading: Luenberger Chapter 2, Section 1. Primbs/Investment Science 2 Interest Interest Principal and Interest Simple Interest Compound Interest Effective Interest Rate Primbs/Investment Science 3 Principal and Interest • Principal: Amount invested • Interest: “Rent” paid on investment • Example: You invest $1 for 1 year at 8%. After 1 year you receive $1.08. $1.08 = $1.00 + $0.08 principal interest Primbs/Investment Science 4 Principal and Interest • In general, if – A : Principal – r : interest rate per period • After 1 period, you receive – A(1+r) A A(1+r) time 1 Primbs/Investment Science 5 Principal and Interest • Interest over multiple periods depends on the compounding rule used. • Two Rules – Simple – Compound A ??? time 10 Primbs/Investment Science 6 Interest Interest Principal and Interest Simple Interest Compound Interest Effective Interest Rate Primbs/Investment Science 7 Simple Interest • Simple Interest – Interest is proportional to the time invested. Time: 1 2 n Value: A A+Ar=A(1+r) A+A(2r)=A(1+2r) A(1+nr) Simple interest is not used often in practice. A A(1+r) time 1 A(1+nr) n Money grows linearly Primbs/Investment Science 8 Example • What amount will be owed in 5 years if $5000 is borrowed now at 10% per year simple interest? 7500 $ )) 5 ( 1 . 1 ( 5000 $ )) ( 1 ( = + = + = time r A V Let V = Final value, A = Principal, r = interest rate: Primbs/Investment Science 9 Interest Interest Principal and Interest Simple Interest Compound Interest Effective Interest Rate Primbs/Investment Science 10 Compound Interest • Compound Interest...
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 Fall '06
 PRIMBS
 Interest Rates, Primbs/Investment Science

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