CFA 5: The Time Value of Money Flashcards
discount
Interest Rates: Interpretation
To reduce the value of a future payment in allowance for how far away it is in time; to calculate the present value of some future amount. Also, the amount by which an instrument is priced below its face (par) value.
interest rate
Interest Rates: Interpretation
A rate of return that reflects the relationship between differently dated cash flows; a discount.
opportunity cost
Interest Rates: Interpretation
The value that investors forgo by choosing a particular course of action; the value of something in its best alternative use.
real risk-free interest rate
Interest Rates: Interpretation
The single-period interest rate for a completely risk-free security if no inflation were expected.
inflation premium
Interest Rates: Interpretation
An extra retun that compensates investors for expected inflation.
nominal risk-free interest rate
Interest Rates: Interpretation
The sum of the real risk-free interest rate and the inflation premium.
default risk premium
Interest Rates: Interpretation
An extra return that compensates investors for the possibility that the borrower will fail to make a promised payment at the contracted time and in the contracted amount.
liquidity premium
Interest Rates: Interpretation
An extra return that compensates investors for the risk of loss relative to an investment’s fair value if the investment needs to be converted to cash quickly.
maturity premium
Interest Rates: Interpretation
An extra return that compensates investors for the increased sensitivity of the market value of debt to a change in market interest rates as maturity is extended.
present value (PV)
The Future Value of a Single Cash Flow
The present discounted value of future cash flows: For assets, the present discounted value of the future net cash inflows that the asset is expected to generate; for liabilities, the present discounted value of the future net cash outflows that are expected to be required to settle the liabilities.
future value (FV)
The Future Value of a Single Cash Flow
The amount to which a payment or series of payments will grow by a stated future date.
principal
The Future Value of a Single Cash Flow
The amount of funds originally invested in a project or instrument; the face value to be paid at maturity.
compounding
The Future Value of a Single Cash Flow
The process of accumulating interst on interest.
simple interest
The Future Value of a Single Cash Flow
The interest earned each period on the original investment; interest calculated on the principal only.
stated annual interest rate
The Future Value of a Single Cash Flow
A quoted interest rate that does not account for for compounding within the year. Also called quoted interest rate.
effective annual rate (EAR)
The Future Value of a Single Cash Flow
The amount by which a unit of currency will grow in a year with interest on interest included.
annuity
The Future Value of a Series of Cash Flows
A finite set of level sequential cash flows.
ordinary annuity
The Future Value of a Series of Cash Flows
An annuity with a first cash flow that is paid one period from the present.
perpetuity
The Future Value of a Series of Cash Flows
A perpetual annuity, or a set of never-ending level sequential cash flows, with th first cash flow occurring one period from now. A bond that does not mature.
cash flow additivity principle
The Future Value of a Series of Cash Flows
The principle that dollar amounts indexed at the same point in time are additive.
