Chapter 2 Flashcards
What is interest?
the rent charged for the use of money
What does the I, P, R AND T stand for in the simple interest formula
I = interest p = principal or present value r = annual interest rate expressed as a decimal or percent T= time (in years)
What is interest?
the rent charged for the use of money
What are the two ways of computing interest?
1) Simple interest
2) Compound interest
define the simple interest?
interest on a loan computed as a percentage of the loan amount, or principal
state the simple interest formula?
I = P x R x T
What is compound interest?
- the process of earning interest on interest
Whats the difference between solving simple interest problems and compound interest problems?
for compound interest, the interest each year is added to the original principal
time value of money is commonly applied to what two types of cash flows?
- A single dollar amount (a lump sum)
2. Annuity
What is Annuity?
the payment of a series of equal cash flow payments at equal intervals of time
What is the formula for future value of a single dollar amount?
FV = PV( 1 + i/N) to the power nt
What do the variables in the FV formula stand for
FV- future value of an investment
PV = present value of an investment
i = annual interest rate (as a decimal or percent)
n = number of copmpounding periods per year
t = time (in years)
what is the future value interest factor?
A factor multiplied by today’s savings to determine how the savings will accumulate over time
what are the two types on annuity?
Ordinary annuity
Annuity due
Define the term ordinary annuity
A stream of equal payments that are received, or paid, at intervals in time, at the end of a period
what is Annuity due?
A series of equal cash flow payments that occur at the beginning of each period
if the payment changes over time, the payment stream still reflects an annuity
False, if payment changes over time, the stream does not reflect an annuity
How can the present value of an annuity be obtained?
The present value of an annuity can be obtained by discounting the individual cash flows of the annuity and totalling them
What it normal interest rate (also known as the APR)
the stated or quoted, rate of interest
when comparing two or more interest rate is the nominal useful
No because it does not take into account the effect of compounding
what is the Effective interest rate (also known as effective yield (ey)
- the actual interest rate of interest that you earn, or pay, over a period of time
Effective interest rate allows the comparison pf two or more interest rates because it ____?
because it reflects the effect of compound interest
