Financial Decition Making And Law Of One Price Flashcards
What determines the cash value of a good on a competitive market
Price
What is the difference between net present value and present value of an asset
Net present value accounts for time adjusted costs
What is arbitrage
Buying cheap from one market and selling with a profit on another taking account of the difference in price on the two markets
What are the costs risks and rewards of an arbitrage opertunity
There are no risks or costs and the payoff is positive
Why do people assume there are no arbitrage opertunities
Because they disappear as quick as they appear as they are verry attractive
What is the law of one price
Absence of arbitrage. All markets have the same price on equivalent asscets
What is the price of a risk free aecurity
The present value of the future cashflow
How do you account for risk
You add the different scenarios present value wighted by the likelihood of the outcome
How is future value calculated
Multiply the current value by one plus the risk free interest rate with an exponent of the number of years
How do you calculate the present value of future earnings
You divide the cash flow by one plus the risk free interest rate exponentiated by the number of years in the future
What is an annuity
When you get a fixed amount of return in an investment for a time
What is a perpetuity
Getting a fixed return in an investment each year forever
What is the price of a perpetuity according to the law of one price
The annual return divided by the risk free rate
What is the formula go calculate the price of an annuity of C for N years
(C/r)*(1-(1/(1+r)^N))
Perpetuity of the cashflow times one minus the present value decrease
What is a growing perpetuity
When the cashflow from
An i vestment grows at a constant rate each year
