Vous êtes sur la page 1sur 49

Level I - Quantitative Methods

Time Value of Money

www.ift.world
Graphs, charts, tables, examples, and figures are copyright 2014, CFA Institute.
Reproduced and republished with permission from CFA Institute. All rights reserved.
1

Contents
1.
2.
3.
4.
5.
6.
7.

Introduction
Interest Rates: Interpretation
The Future Value of a Single Cash Flow
The Future Value of a Series of Cash Flows
The Present Value of a Single Cash Flows
The Present Value of a Series of Cash Flows
Solving for Rates, Number of Periods, or Size
of Annuity Payments
www.ift.world

Video Lecture 1
39 minutes

Video Lecture 2
40 minutes

1. Introduction
Time value of money
Interest rates
Present value
Future value

www.ift.world

2. Interest Rates: Interpretation

Interest rates can be interpreted as:
1. Required rate of return
2. Discount rate
3. Opportunity cost
Say you lend \$900 today and receive \$990 after one year
Required Rate of Return

Discount Rate

www.ift.world

Opportunity Cost

Interest Rates: Investor Perspective

As investors, we can view an interest rate as:
Nominal
Risk-free
Rate

Real risk-free interest rate +

Default risk premium +

www.ift.world

Practice Question 1
Jill Smith wishes to compute the required rate of return. Which of the
following premiums is she least likely to include?
Required rate of return includes inflation premium, maturity premium, default
risk premium, and liquidity premium. There is no such component as a

www.ift.world

Practice Question 2
Which of the following is least likely true?
A. Discount rate is the rate needed to calculate present value
B. Opportunity cost represents the value an investor forgoes
C. Required rate of return is the maximum rate of return an investor
must receive to accept an investment
Required rate of return is the minimum rate of return an investor must
receive to accept an investment. Therefore, option C is least likely to be the
interpretation of interest rates.

www.ift.world

Practice Question 3
Investments

Maturity
(in years)

Liquidity

Default risk

High

Low

2.0

Low

Low

2.5

Low

Low

High

Low

3.0

Low

High

4.0

1.

Explain the difference between the interest rates on

Investment A and Investment B.

2.

3.

Investment C, r.
www.ift.world

3. Future Value of a Single Cash Flow

PV = 100 and r = 10%
What is the FV after one year?
What is the FV after two years?

FVN = PV (1 + r)N

www.ift.world

Practice Question 4
Cyndia Rojers deposits \$5 million in her savings account. The account holders are
entitled to a 5% interest. If Cyndia withdraws cash after 2.5 years, how much cash
would she most likely be able to withdraw?

www.ift.world

10

FV Calculation Using a Financial Calculator

Set to floating decimal

Keystrokes

Explanation

Display

DEC = 9

[2nd] [QUIT]

You invest \$100 today at 10% compounded annually. How

much will you have in 5 years?
Keystrokes

Explanation

Display

[2nd] [QUIT]

Clears TVM Worksheet

5 [N]

Five years/periods

N=5

10 [I/Y]

I/Y = 10

100 [PV]

PV = 100

0 [PMT]

Set payment

PMT = 0

[CPT] [FV]

FV = -161.05

www.ift.world

11

3.1 Frequency of Compounding

You invest 80,000 in a 3-year certificate of deposit. This CD offers a stated
annual interest rate of 10% compounded quarterly. How much will you
have at the end of three years?

www.ift.world

12

Multiple Compounding Periods - Calculator

You invest 80,000 in a 3-year certificate of deposit. This CD offers a stated annual
interest rate of 10% compounded quarterly. How much will you have at the end of
three years?

www.ift.world

13

Practice Question 5
Donald invested \$3 million in an American bank that promises to pay 4% compounded daily. Which
of the following is closest to the amount Donald receives at the end of the first year? Assume 365
days in a year.
A. \$3.003 million
B. \$3.122 million
C. \$3.562 million

www.ift.world

14

3.2 Continuous Compounding

Infinite compounding periods per year continuous compounding

FVN = PV e r N
An investment worth \$50,000 earns interest that is compounded
continuously. The stated annual interest is 3.6%. What is the
future value of the investment after 3 years?

www.ift.world

15

Concept Building Exercise

Assume the stated annual interest rate is 12%. What is the future value of \$100 at
different compounding frequencies?
Frequency

Return

Annual

112

12.00%

Semiannual

112.36

12.36%

Quarterly
Monthly
Daily
Continuous

www.ift.world

16

3.3 Stated and Effective Rates

With a discrete number of compounding periods:
EAR = (1 + Periodic interest rate)m 1

EAR = er 1

www.ift.world

17

4. The Future Value of a Series of Cash Flows

Annuity: finite set of level sequential cash flows
Ordinary annuity: an annuity where the first cash flow occurs one period from today

Annuity due: an annuity where the first cash flow occurs immediately

Perpetuity: set of level never-ending sequential cash flows with the first cash flow
occurring one period from today
www.ift.world

18

4.1 Future Cash Flows Ordinary Annuity

Ordinary annuity with A = 1,000 r = 5% and N = 5

www.ift.world

19

Ordinary Annuity - Formula

Ordinary annuity with A = 1,000 r = 5% and N = 5

FVN = A {[(1+r)N 1]/r}

FVN = A {Future Value Annuity Factor}

www.ift.world

20

Ordinary Annuity - Calculator

Ordinary annuity with A = 1,000 r = 5% and N = 5

N=5
I/Y = 5
PV = 0
PMT = 1,000
CPT

FV

www.ift.world

21

Practice Question 6
Haley deposits \$24,000 in her bank account at the end of every year. The account
earns 12% per annum. If she continues this practice, how much money will she have
at the end of 15 years?

www.ift.world

22

Practice Question 7
Iago wishes to compute the future value of an annuity worth \$120,000. He is aware
that the FV annuity factor is 21.664 and the interest rate is 4.5%. Which of the
following is least likely to be useful for the future value computation?
A. Annuity worth
B. Future value annuity factor
C. Interest rate

www.ift.world

23

Time

1,000

2,000

3,000

4,000

5,000

www.ift.world

24

End of Lecture 1

www.ift.world

25

5. Finding the Present Value of a Single Cash Flow

PV = FVN (1+r)-N

For a given discount rate, the farther in the future the amount to be received,
the small the amounts present value.
Holding time constant, the larger the discount rate, the smaller the present
value of a future amount.

www.ift.world

26

Practice Question 8
Liam purchases a contract from an insurance company. The contract promises to pay
\$600,000 after 8 years with a 5% return. What amount of money should Liam most
likely invest? Solve using the formula and TVM functions on the calculator.

www.ift.world

27

Practice Question 9
Mathews wishes to fund his son, Nathans, college tuition fee. He purchases a security
that will pay \$1,000,000 in 12 years. Nathans college begins 3 years from now. Given
that the discount rate is 7.5%, what is the securitys value at the time of Nathans

www.ift.world

28

Practice Question 10
Orlando is a manager at an Australian pension fund. 5 years from today he wants a
lump sum amount of AUD40, 000. Given that the current interest rate is 4% a year,
compounded monthly, how much should Orlando invest today?

www.ift.world

29

6. Present Value of a Series of Cash Flows

Present value of a series of equal cash flows (annuity)
Present value of a perpetuity
Present value indexed at times other than zero
Present value of a series of unequal cash flows

www.ift.world

30

6.1 Present Value of a Series of Equal Cash Flows

Ordinary annuity with A = 10 r = 5% and N = 5
0

www.ift.world

31

PV of an Ordinary Annuity: Using the Formula

Ordinary annuity with A = 10 r = 5% and N = 5
0

PV = A {[1 1/(1+r)N]/r}

www.ift.world

32

PV of an Ordinary Annuity: Using the Calculator

Ordinary annuity with A = 10 r = 5% and N = 5
0

www.ift.world

33

Annuity Due The Concept

Annuity due with A = 10 r = 5% and N = 5
0

www.ift.world

34

PV of an Annuity Due: Using the Formula

Annuity due with A = 10 r = 5% and N = 5
0

www.ift.world

35

PV of an Annuity Due: Using the Calculator

Annuity due with A = 10 r = 5% and N = 5
0

www.ift.world

Key Strokes

Display

BGN

[2nd] [QUIT]

BGN

BGN

5 [N]

BGN

N=5

5 [I/Y]

BGN

I/Y = 5

10 [PMT]

BGN

PMT = 10

0 [FV]

BGN

FV = 0

[CPT] [PV]

BGN

END

[2nd] [QUIT]

36

6.2 Present Value of a Perpetuity

PV = A/r
Present value is one period before the first
cash flow
Simple example to understand the formula:
You invest \$100 and get 5% for ever. What is
the cash flow?

www.ift.world

37

6.3 Present Values Indexed at Times Other Than t=0

An annuity or perpetuity beginning sometime in the future can be expressed in present
value terms one period prior to the first payment

Discount back to todays present value

www.ift.world

38

Practice Question 11
Bill Graham is willing to pay for a perpetual preferred stock that pays dividends worth
\$100 per year indefinitely. The first payment will be received at t = 4. Given that the
required rate of return is 10%, how much should Mr. Graham pay today?

www.ift.world

39

6.4 The Present Value of a Series of Unequal Cash Flows

Find the present value of each individual cash
Sum the respective present values

www.ift.world

40

Practice Question 12
Andy makes an investment with the expected cash flow shown in the table below.
Assuming a discount rate of 9% what is the present value of this investment?
Time Period
1
2
3
4
5

Cash Flow(\$)
50
100
150
200
250

www.ift.world

41

Annuity Payments

Solving for Interest Rates and Growth

Solving for Number of Periods
Solving for the Size of Annuity Payments
Review of Present Value and Future Value Equivalence
The Cash Flow Additivity Principle

www.ift.world

42

7.1 Solving for Interest Rates and Growth Rates

A \$100 deposit today grows to \$121 in 2 years.
What is the interest rate? Use both the formula and the
calculator method.
The population of a small town is 100,000 on 1 Jan
2000. On 31 December 2001 the population is
121,000. What is the growth rate?

You invest \$900 today and receive a \$100 coupon

payment at the end of every year for 5 years. In
addition, you receive \$1,000 and the end of year 5.
What is the interest rate?
www.ift.world

43

7.2 Solving for the Number of Periods

You invest \$2,500. How many years will it take to triple the amount given that
the interest rate is 6% per annum compounded annually? Use both the formula
and the calculator method.

www.ift.world

44

7.3 Solving for the Size of Annuity Payments

Freddie bought a car worth \$42,000 today. He was required to make a 15% down payment. The
remainder was to be paid as a monthly payment over the next 12 months with the first payment
due at t=1. Given that the interest rate is 8% per annum compounded monthly, what is the
approximate monthly payment?

www.ift.world

45

7.4 Review of Present and Future Value Equivalence

Ordinary annuity with A = 10 r = 5% and N = 5 PV = 43.29
A lump sum can be considered equivalent
to an annuity

Lump sum = PV = 43.29

An annuity can be considered equivalent
to a future value
FV = 55.26
A lump sum can be considered equivalent
to a future value

www.ift.world

46

7.5 The Cash Flow Additivity Principle

Amounts of money indexed at the same point in time are additive

www.ift.world

47

Summary
1. Interest Rates
2. Future Value
3. Present Value
4. Solving for Rates, Number of
Periods, or Size of Annuity
Payments
www.ift.world

48

Conclusion
Review learning objectives
Examples and practice problems from the
curriculum
Practice questions from other sources

www.ift.world

49