chapter 4 Flashcards
what is a stream of cash flow?
multiple cashflows that last several periods
what are the 3 rules of cashflow time travel?
1) only cash flow values at the same point in time can be compared or combined
2) to move cash flow forward in time you must compound it
3) to move a cash flow backward you must discount it
what is the formula to compound a cash flow forward in time?
FV= Cn (1+r)^n
what is the formula to discount a cash flow backward in time?
PV=Cn/ (1+r)^n
what is the formula to discount multiple cash flows backwards?
PV= C + C1/(1+r) + C2/(1+r)^2+….+ Cn/ (1+r)^n
what is a regular perpetuity?
a stream of equal cash flows that occur at constant time intervals and last forever
what is an example of a perpetuity?
if you set up a fund at UofW to give 10,000 dollar scholarships to one person for a year forever, that would be a perpetuity, 10,000 dollar payments forever
what is the formula to find the present value of a perpetuities?
PV=C/r
what is an annuity?
a series of identical payments at identical periods or intervals over a specified term at a constant interest rate
what are some examples of annuities?
mortgage payments and car leases, they both require regular fixed monthly payments
what are the 2 kinds of annuities?
ordinary annuity
annuity due
what is an ordinary annuity?
an annuity paid or received at the end of the interest compounding period (mortgage payments)
what is an annuity due?
an annuity paid ire received at the beginning of the interest compounding period (rent)
what is a regular annuity?
a stream of n equal cash flows paid over constant time intervals
what is the difference between an annuity and a perpetuity?
an annuity ends after a fixed number of payments and a perpetuity last forever
what is the formula for finding the present value of an annuity?
PV= C/r (1- 1/(1+r)^n)
what is then formula for finding the future value of an annuity?
FV=C/r ((1+r)^r -1)
what is a growing perpetuity?
a stream of cash flows that occur at regular intervals and grow at a constant rate forever
what is the formula for finding the present value of a growing perpetuity?
PV= C1/ r-g
g= growth rate
what does g stand for?
growth rate
what are the 2 conditions that need to hold for us to use the same formulas for annual PV and FV for non-annual time intervals cash flows?
interest rates used corresponds to the specific time interval
(if the time interval is monthly, interest must be per month)
the number of periods used corresponds to the specific time interval
(if the time interval is monthly, count the total number of months to use for n)
