lect3 - Today's Lecture Review of NPV Risk Time Value of...

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Unformatted text preview: Today's Lecture Review of NPV Risk Time Value of Money 2 Lets summarize ❚ I have convinced you (I hope) that any investment that has positive NPV is a "no brainer" ❚ preferences do not affect this statement ❚ it’s like you just get the NPV ❚ Next we need a standard formulae to calculate the NPV .... 3 Present Value Formula: 4 NET Present Value Formula: 5 Example 1 ❚ I have an offer to sell my bike for $500. My brother also wants to buy the bike. He will pay me $545, but he can only make the payment in a year. If current interest rates are 10%, which is the better deal? 6 Example 2 ❚ Your buddy would like to start a business. He needs $10,000. If you lend him the money and the business is successful, he will give you $12,000 in a year. ❙ If interest rates are 10% what should you do? ❘ What is the present value of $12,000? ❘ What is the net present value of this investment? ❙ Is 10% the correct rate to use? ❘ What would your answer be if rates were 25%? 7 Valuing a Security ❚ Consider a security that promises a one-time payment to its owner of $1000 in one year. If the one year interest rate is 5%, what price will this security have in a market without arbitrage opportunities? ❙ We will call a market without arbitrage opportunities a NORMAL market. 8 Law of One Price ❚ Two investment opportunities that are simultaneously available in competitive markets must have the same price ❙ What would happen if the bond traded for $940? What about $960? 9 Shor t Sale ❚ Selling a financial security you do not own.Selling a financial security you do not own....
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This note was uploaded on 10/02/2009 for the course UGBA 08547 taught by Professor Odean during the Fall '09 term at Berkeley.

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lect3 - Today's Lecture Review of NPV Risk Time Value of...

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