LN_5 - Time Value of Money Question You are offered two...

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1 Time Value of Money Question ± You are offered two options to receive a cash payment. ² Option A: $100 today Prof. Q. Ma HADM 2222: Time Value of Money 0 ² Option B: $107 in future year t ± Which one is more valuable to you? General Question Earlier time Later time Prof. Q. Ma HADM 2222: Time Value of Money 1 Time Line $$$$ (PV) $$$$$$ (FV) Learning Objectives ± Be able to compute ² The FV of a cash payment made today ² The PV of cash at some future date ² The return (r) on an investment The number of periods (T) that equates a PV Prof. Q. Ma HADM 2222: Time Value of Money 2 ² The number of periods (T) that equates a PV and an FV given an interest rate (r) ± Be able to use a financial calculator to solve TVM problems Future Value ± Suppose you invest $100 for one year at 6% per year. What do you have in one year? ² Interest = 100 * .06 = 6 ² Value in one year = principal + interest = 100 + 6 ² Future Value (FV) = 100 * (1 + .06) Prof. Q. Ma HADM 2222: Time Value of Money 3 ± Suppose you leave the money in for another year. How much will you have two years from now? ² FV = 106 + 106 * .06 = 106 * (1+.06) ² FV = 100 * (1+.06) 2 Future Value – General Formula FV = PV (1 + r) T ± FV = future value Prof. Q. Ma HADM 2222: Time Value of Money 4 ± PV = present value ± r = period interest rate, expressed as a decimal ± T = number of periods Definitions Earlier time Later time Time Line PV FV Prof. Q. Ma HADM 2222: Time Value of Money 5 ± Present Value – earlier money on a time line ± Future Value – later money on a time line ± Interest rate – “exchange rate” between earlier money and later money ² Discount rate; required return ² Cost of capital; opportunity cost of capital
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2 Effect of Compounding ± Simple interest ±
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This note was uploaded on 10/09/2009 for the course H ADM 222 at Cornell University (Engineering School).

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LN_5 - Time Value of Money Question You are offered two...

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