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CHAPTER 2
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Introduction
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Beginning this chapter, we are going to learn one of the most important topics in
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finance, the time value of money. Note that almost every course, which you will
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take as finance major, depends largely on time value of money. Hence, it is a good
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idea to spend a fair amount of time in learning the concepts.
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Essentially, we will learn the following concepts:
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1.
The conventions used in the study of time value of money
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2.
The time value of money under simple rate of interest
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The simple rate of interest nowadays is mostly of academic interest. You
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will seldom find any transaction either in the real world or in the academics
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that is based on the simple rate of interest. In fact, this is a fortunate
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development in the sense that the only thing that is simple about the simple
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rate of interest is its name. Otherwise the mathematical foundations and the
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resultant applications are almost impossible to deal with mathematically.
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Just to understand its complexity we will devote some time on this topic.
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In the simple rate of interest we will learn
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a.
Future value of an amount
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b.
Present value of an amount
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c.
Future value of an annuity
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d.
Present value of an annuity
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3.
Compound rate of interest
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All the topics in the time value of money that we will learn are under
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compound rate of interest. The topic that will be covered can be broadly
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categorized as in two main categories
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a.
The time value concepts under the lump sum case
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b.
The time value concepts under a series of payments case
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In lump sum case we will learn
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a.
Present value of an amount
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b.
Future value of an amount
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c.
Finding the unknown rate of interest
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d.
Finding the unknown time period
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Under the series of payments topic we will learn present and future value of
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a series of payments including future and present value of annuities and
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annuity dues. We will also learn how to find the unknown rate of interest as
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well as the unknown time period. All of the above concepts will be dealt
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with under annual compounding, compounding „
m
‟ (
m
>1) times per year
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and continuous compounding.
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4.
Special topics
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Under this we will discuss the concept of time value of money for such
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topics but not limited to cash flows growing at a constant rate (under the
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constant
growth
rate)
and/or
under
constant level
increments,
when
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compounding and deposit intervals are different etc.
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 Fall '10
 CHAIYUTHPADUNGSAKSAWASDI
 Finance, Time Value Of Money, Period

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