Lesson 17 INTRODUCTION Logarithm

Logarithms were originally developed to simplify complex arithmetic calculations. They were
designed to transform multiplicative processes into additive ones.
That means the logarithm of a number is the exponent to which another fixed number, the base,
must be raised to produce that number. In simple cases the logarithm counts factors in
multiplication. For example, the base 10 logarithm of 1000 is 3, as 10 to the power 3 is 1000(1000
= 101010 = 103); 10 is used as a factor three times. More generally, exponentiation allows
any positive real number to be raised to any real power, always producing a positive result, so the
logarithm can be calculated for any two positive real numbers b and x where b is not equal to 1.
The logarithm of x to base b, denoted logb(x) (or logbx when no confusion is possible), is the
unique real number y such that by = x.
The logarithm to base 10 (that is b = 10) is called the common logarithm and has many
applications in science and engineering. The natural logarithm has the number e ( 2.718) as its
base; its use is widespread in mathematics and physics, because of its simpler derivative.
The binary logarithm uses base 2 (that is b = 2) and is commonly used in computer science.
Logarithms were introduced by John Napier in the early 17th century as a means to simplify
calculations. They were rapidly adopted by navigators, scientists, engineers, and others to perform
computations more easily, using slide rules and logarithm tables. Tedious multi-digit
multiplication steps can be replaced by table look-ups and simpler addition because of the fact
important in its own rightthat the logarithm of a product is the sum of the logarithms of the
factors:

Example 1:
Write 23 8 in logarithmic form.

log2 8 3
Solution:

We read this as: the log base 2 of 8 is equal to 3.

Example 1a:
Write 4 2 16 in logarithmic form.
Solution:

log4 16 2
Read as: the log base 4 of 16 is equal to 2.
Example 1b:
1
Write 2 3 in logarithmic form.
8

Solution:
1
log2 3
8

1
Read as: "the log base 2 of is equal to -3".
8
ACTIVITIES/ EXERCISES
1. Write 72 49 in logarithmic form.
Solution: log 7 49 2

2. Write 50 1 in logarithmic form.

log5 1 0
Solution:

1
3. Write 10 2 in log arithmic form.
100

Solution: 1
lo g1 0 2
100
 LESSON 18: LOGARITHMIC FUNCTION, EQUATION AND
INEQUALITIES
Logarithmic Functions
An interactive applet is used to explore logarithmic functions and the properties of their graphs
such domain, range, x and y intercepts and vertical asymptote.

Parameters included in the definition of the logarithmic function may be changed, using sliders,
to investigate its properties. The continuous (small increments) changes of these parameters help
in gaining a deep understanding of logarithmic functions.

The logarithmic function is defined as the inverse of the exponential function.

For B > 0 and B not equal to 1,

y = Log Bx is equivalent to x = B y.

Example:

LOGARITHMIC EQUATIONS
Logarithmic equations contain logarithmic expressions and constants. A logarithm is another way

to write an exponent and is defined by if and only if . When one side of the
equation contains a single logarithm and the other side contains a constant, the equation can be
solved by rewriting the equation as an equivalent exponential equation using the definition of

logarithm from above. For example, ; ; . If one side of a

logarithmic equation contains more than one logarithm, use the properties of logarithms to
condense it into a single logarithm. Properties of logarithms basically change multiplication into
addition, division into subtraction, exponent into multiplication, and radical into division.
 Example 1: Solve for x in the equation Ln(x)=8.
Solution:
Step 1: Let both sides be exponents of the base e. The equation Ln(x)=8 can be
rewritten .
Step 2: By now you should know that when the base of the exponent and the
base of the logarithm are the same, the left side can be written x. The
equation can now be written .
Step 3: The exact answer is and the approximate answer is

Example 2: Solve for x in the equation 7Log(3x)=15.

Solution:

Step 1: Isolate the logarithmic term before you convert the logarithmic
equation to an exponential equation. Divide both sides of the original equation
by 7:

Step 2: Convert the logarithmic equation to an exponential equation: If no base

is indicated, it means the base of the logarithm is 10. Recall also that logarithms

are exponents, so the exponent is . The equation

can now be written

Step 3: Divide both sides of the above equation by 3:

 is the exact answer and is the approximate
answer

Example 3: Solve for x in the equation

Solution:

Step 1: Note the first term Ln(x-3) is valid only when x>3; the term Ln(x-2) is valid only
when x>2; and the term Ln(2x+24) is valid only when x>-12. If we require that x be any
real number greater than 3, all three terms will be valid. If all three terms are valid, then
the equation is valid.
Step 2: Simplify the left side of the above equation: By the properties of logarithms, we
know that

Step 3: The equation can now be written

Step 4: Let each side of the above equation be the exponent of the base e:

Step 5: Simplify the above equation:

Another way of looking at the equation in Step 3 is to realize that if Ln(a)

= Ln(b), then a must equal b. In the case of this problem, then

Step 6: Simplify the left side of the above equation:

Step 7: Subtract 2x + 24 from each side:

 Step 8: Factor the left side of the above equation:

Step 9: If the product of two factors equals zero, at least one of the factor has to
be zero. If . If . x = 9 is our only
solution. Why is 9 the only solution? We defined our domain to be all the real
numbers greater than 3.

ACTIVITIES

Problem 1: Solve for x in the equation

Problem 2: Solve for x in the equation

Problem 3: Solve for x in the equation

LOGARITHMIC INEQUALITIES
Logarithmic inequalities are inequalities in which one (or both) sides involve a logarithm.
Like exponential inequalities, they are useful in analyzing situations involving repeated
multiplication, such as in the cases of interest and exponential decay.
 LESSON 19: BASIC PROPERTIES OF LOGARITHMS

The logarithm base b of a number xis the power to which b must be raised in order to equal x. This is

written logb x. For instance, because . Logs have four basic properties:
1. Product Rule: The log of a product is equal to the sum of the log of the first base and the log of the second base (

).
2. Quotient Rule: The log of a quotient is equal to the difference of the logs of the numerator and denominator (

).

3. Power Rule: The log of a power is equal to the power times the log of the base ( ).
4. Change of Base Formula: The log of a new base is the log of the new base divided by the log of the old base in the

new base ( ).

EXERCISE:
 LESSON 20: LAWS OF LOGARITHMS
The laws of logarithms There are a number of rules which enable us to rewrite expressions
involving logarithms in different, yet equivalent, ways. These rules are known as the laws of
logarithms. You will find that your lecturers use these laws to present answers in different forms,
and so you should make yourself aware of them and how they are used. The laws apply to
logarithms of any base but the same base must be used throughout a calculation.
The laws of logarithms The three main laws are stated here
First Law log A + log B = log AB

This law tells us how to add two logarithms together. Adding log A and log B results in the
logarithm of the product of A and B, that is log AB.
For example,
we can write log10 6 + log10 2 = log10(6 2) = log10 12
The same base, in this case 10, is used throughout the calculation. You should verify this by
evaluating both sides separately on your calculator.
Second Law log An = n log A

So, for example

log10 64 = 4 log10 6
You should verify this by evaluating both sides separately on your calculator.
Third Law log A log B = log A B

So, subtracting log B from log A results in log A B .

For example,
we can write loge 15 loge 3 = loge 15 3 = loge 5
The same base, in this case e, is used throughout the calculation. You should verify this by
evaluating both sides separately on your calculator.
Four other useful results are
log 1 = 0, l ogm m = 1
log10 10n = n loge en = n
The logarithm of 1 to any base is always 0.
The logarithm of a number to the same base is always 1. In particular,
log10 10 = 1, and loge e=1
EXERCISES
1. Use the first law to simplify the following.
(a) log10 8 + log10 5,
(b) log x + log y,
(c) log 5x + log 3x,
(d) log a + log b2 + log c3.
2. Use the third law to simplify the following.
(a) log10 12 log10 4,
(b) log x log y,
(c) log 4x log x.
3. Use the second law to write each of the following in an alternative form.
(a) 3 log10 5,
(b) 2 log x,
(c) log(4x)2,
(d) 5 ln x4, (e) ln 1000.

LESSON 21: SOLVING LOGARITHMIC EQUATION AND

INEQUALITIES
Logarithmic Equations and Inequalities
In Section 6.3 we solved equations and inequalities involving exponential functions using one of
two basic strategies. We now turn our attention to equations and inequalities involving logarithmic
functions, and not surprisingly, there are two basic strategies to choose from. For example, suppose
we wish to solve log2(x) = log2(5). Theorem 6.4 tells us that the only solution to this equation is x
= 5. Now suppose we wish to solve log2(x) = 3. If we want to use Theorem 6.4, we need to rewrite
3 as a logarithm base 2. We can use Theorem 6.3 to do just that: 3 = log
Our equation then becomes log2(x) = log2(8) so that x = 8. However, we could have arrived at the
same answer, in fewer steps, by using Theorem 6.3 to rewrite the equation log2(x) = 3 as 23 = x, or
x = 8. We summarize the two common ways to solve log equations below.
 Steps for Solving an Equation involving Logarithmic Functions
1. Isolate the logarithmic function.

2. (a) If convenient, express both sides as logs with the same base and equate the
arguments of the log functions.
(b) Otherwise, rewrite the log equation as an exponential equation.

Example: Solve the following equations. Check your solutions graphically using a calculator.

1. 2. 2 ln(x 3) = 1

3. log6(x + 4) + log6(3 x) = 1 4. log7(1 2x) = 1 log7(3 x)

5. log2(x + 3) = log2(6 x) + 3 6. 1 + 2log4(x + 1) = 2log2(x)

Solution.

1. Since we have the same base on both sides of the equation log ,
we equate whats inside the logs to get 1 3x = x 3. Solving x + 3x 4 = 0 gives x = 4
2 2

and x = 1. To check these answers using the calculator, we make use of the change of base

formula and graph and and we see they intersect only at x = 4.

To see what happened to the solution x = 1, we substitute it into our original equation to
obtain log117(2) = log117(2). While these expressions look identical, neither is a real
number,1 which means x = 1 is not in the domain of the original equation, and is not a solution.
2. Our first objective in solving 2ln(x3) = 1 is to isolate the logarithm. We get ln(x3) = 1,
which, as an exponential equation, is e1 = x 3. We get our solution x = e + 3. On the
calculator, we see the graph of f(x) = 2 ln(x 3) intersects the graph of g(x) = 1 at x = e +
3 5.718.
 y = f(x) = log117(1 3x) and y = f(x) = 2 ln(x 3) and y
y = g(x) = 1

3. We can start solving log6(x+4)+log6(3x) = 1 by using the Product Rule for logarithms to
rewrite the equation as log6 [(x + 4)(3 x)] = 1. Rewriting this as an exponential equation,
we get 61 = (x + 4)(3 x). This reduces to x2 + x 6 = 0, which gives x = 3 and x = 2.
Graphing and y = g(x) = 1, we see they intersect twice, at x =
3 and x = 2.

y = f(x) = log6(x + 4) + log6(3 x) and y = g(x) = 1

4. Taking a cue from the previous problem, we begin solving log7(1 2x) = 1 log7(3 x) by
first collecting the logarithms on the same side, log7(12x)+log7(3x) = 1, and then using the
Product Rule to get log7[(1 2x)(3 x)] = 1. Rewriting this as an exponential equation gives
71 = (12x)(3x) which gives the quadratic equation 2x27x4 = 0. Solving, we find
and x = 4. Graphing, we find and intersect only at
. Checking x = 4 in the original equation produces log7(7) = 1 log7(1), which is
a clear domain violation.

5. Starting with log2(x + 3) = log2(6 x) + 3, we gather the logarithms to one side and get log2(x
+ 3) log2(6 x) = 3. We then use the Quotient Rule and convert to an exponential equation

This reduces to the linear equation 8(6 x) = x + 3, which gives us x = 5. When we graph
and + 3, we find they intersect at x = 5.

y = f(x) = log7(1 2x) and y = f(x) = log2(x + 3) and

y = g(x) = 1 log7(3 x) y = g(x) = log2(6 x) + 3
 1. Starting with 1+2log4(x+1) = 2log2(x), we gather the logs to one side to get the equation 1 =
2log2(x) 2log4(x + 1). Before we can combine the logarithms, however, we need a common
base. Since 4 is a power of 2, we use change of base to convert

Hence, our original equation becomes

+ 1) Power Rule

Quotient Rule

Rewriting this in exponential form, we get 2 = 0. Using the quadratic

formula, we get x = 1 3. Graphingand, we see the

graphs intersect only at x = 1 + 3 2.732. The solution x = 1 3 < 0, which means if
substituted into the original equation, the term 2log is undefined.

y = f(x) = 1 + 2log4(x + 1) and y = g(x) = 2log2(x)

Example The function is one-to-one. Find a formula for f1(x) and check your
answer graphically using your calculator.
Solution. We first write y = f(x) then interchange the x and y and solve for y.
 Interchange x and y.

Rewrite as an exponential equation.

We have . Graphing f and f1 on the same

viewing window yields

and y = g(x) = 10x+1

EXERCISE
1. log3(7 2x) = 2
2.

3.

4.

LESSON 22: GRAPHING LOGARITHMIC FUNCTION

By nature of the logarithm, most log graphs tend to have the same shape, looking similar to
a square-root graph:

y = sqrt(x) y = log2(x)
The graph of the square root starts at the point (0, 0) and then goes off to the right. On the other
hand, the graph of the log passes through (1, 0), going off to the right but also sliding down the
positive side of the y-axis. Remembering that logs are the inverses of exponentials, this shape for
the log graph makes perfect sense: the graph of the log, being the inverse of the exponential, would
just be the "flip" of the graph of the exponential:

y = 2x y = log2(x)

comparison of the two graphs,

showing the inversion line in red
It is fairly simple to graph exponentials. For instance, to graph y = 2x, you would just plug in some
values for x, compute the corresponding y-values, and plot the points. But how do you graph logs?
There are two options. Here is the first: Copyright Elizabeth Stapel 2002-2011 All Rights
Reserved

Graph y = log2(x).

In order to graph this "by hand", I need first to remember that logs are not defined for
negative x or for x= 0. Because of this restriction on the domain (the input values) of the
log, I won't even bother trying to find y-values for, say, x = 3 or x = 0. Instead, I'll start
with x = 1, and work from there, using the definition of the log.

Since 20 = 1, then log2(1) = 0, and (1, 0) is on the graph.

Since 21 = 2, then log2(2) = 1, and (2, 1) is on the graph.
Since 3 is not a power of 2, then log2(3) will be some messy value. So I won't bother with
graphing x = 3.
Since 22 = 4, then log2(4) = 2, and (4, 2) is on the graph.
Since 5, 6, and 7 aren't powers of 2 either, I'll skip them and move up to x = 8.
Since 23 = 8, then log2(8) = 3, so (8, 3) is on the graph.
The next power of 2 is 16: since 24 = 16, then log2(16) = 4, and (16, 4) is on the graph.
The next power of 2, x = 32, is too big for my taste; I don't feel like drawing my graph that
wide, so I'll quit at x = 16.

The above gives me the point (1, 0) and some points to the right, but what do I do for x-
values between 0 and 1? For this interval, I need to think in terms of negative powers and
reciprocals. Just as the left-hand "half" of the exponential function had few graphable
points (the rest of them being too close to the x-axis), so also the bottom "half" of the log
function has few graphable points, the rest of them being too close to the y-axis. But
I can find a few:

Since 21 = 1/2 = 0.5, then log2(0.5) = 1, and (0.5, 1) is on the graph.

Since 22 = 1/4 = 0.25, then log2(0.25) = 2, and (0.25, 2) is on the graph.

Since 23 = 1/8 = 0.125, then log2(0.125) = 3, and (0.125, 3) is on the graph.

The next power of 2 (as x moves in this direction) is 1/16 = 24, but the x-value for the
point (0.0625, 4) seems too small to bother with, so I'll quit with the points I've already
found.
 Listing these points gives me
my T-chart:

Drawing my dots and then

sketching in the line
(remembering not to go to
the left of the y-axis!), I get
this graph:

CHANGE OF BASE FORMULA

A formula that allows you to rewrite a logarithm in terms of logs written with another base. This
is especially helpful when using a calculator to evaluate a log to any base other than 10 or e.

Assume that x, a, and b are all positive. Also assume that a 1, b 1.

Change of base formula:

Example 1:
Example 2:

(note that )

Example 3:

EXERCISE:
1) log 3 3.3
2) log 2 30
3) log 4 5
4) log 2 2.1
 LESSON 23: ILLUSTRATION OF SIMPLE AND COMPOUND INTEREST

EXAMPLE 1. Suppose you won P10,000 and you plan to invest it for 5 years. A cooperative
group offers 2% simple interest rate per year. A bank offers 2% compounded annually. Which
will you choose and why?
Solution. Investment 1: Simple interest, with annual rate r

Investment 2: Compound Interest, with annual rate r

Simple Interest (in pesos): 11,000 - 10,000 = 1,000 Compound Interest (in pesos):
11,040.81 - 10,000 = 1,040.81

Find interest owed with formula .I = Prt

I = Interest owed
P = Principal, or the initial sum borrowed
r = Interest rate written as a decimal
t = Number of time periods since loan began

Find total amount owed. The borrower also has to pay back initial loan, so total amount owed
is equal to I+ P . You can either add them together at the end, or combine them into one equation
to get total amount A = P (1 + rt) .
Example A.
A bank lends you $55,000 at a simple annual interest rate of 3%. How much interest do you owe
ten years later?
P = $55,000
r = 0.03/year (To convert a percentage to a decimal, divide by 100. For example, if you're given
a rate of 3%, it becomes 3/100, or 0.03)
t = 10 Years
I = Prt = ($ 55,000) (0.03/year) (10 years) = $16,500
Total amount owed = $ 55,000 + $16,500 = $71,500

LESSON 24: Simple Interest'

Simple interest is a quick method of calculating the interest charge on a loan. Simple interest is
determined by multiplying the daily interest rate by the principal by the number of days that elapse
between payments.

This type of interest usually applies to automobile loans or short-term loans, although
some mortgages use this calculation method.
Simple Interest'
When you make a payment on a simple interest loan, the payment first goes toward that months
interest, and the remainder goes toward the principal. Each months interest is paid in full so it
never accrues. In contrast, compound interest adds some of the monthly interest back onto the
loan; in each succeeding month, you pay new interest on old interest.
Examples of Simple Interest
To understand how simple interest works, examine an automobile loan that has a $15,000 principal
balance and an annual 5% simple interest rate. If your payment is due on May 1 and you pay it
precisely on the due date, your interest is calculated on the 30 days in April. Your interest for 30
days is $61.64 under this scenario. However, if you make the payment on April 21, the finance
company charges you interest for only for 20 days in April, dropping your interest payment to
$41.09, a $20 savings.

Compound interest is the addition of interest to the principal sum of a loan or deposit, or in other
words, interest on interest. It is the result of reinvesting interest, rather than paying it out, so that
interest in the next period is then earned on the principal sum plus previously-accumulated interest.
Compound interest is standard in finance and economics.
Compound interest may be contrasted with simple interest, where interest is not added to the
principal, so there is no compounding. The simple annual interest rate is the interest amount per
period, multiplied by the number of periods per year. The simple annual interest rate is also known
as the nominal interest rate (not to be confused with the interest rate not adjusted for inflation,
which goes by the same name).

Example
1,000 Brazilian real (BRL) is deposited into a Brazilian savings account paying 20% per
annum, compounded annually. At the end of one year, 1,000 x 20% = 200 BRL interest is
credited to the account. The account then earns 1,200 x 20% = 240 BRL in the second year.
 A rate of 1% per month is equivalent to a simple annual interest rate (nominal rate) of 12%,
but allowing for the effect of compounding, the annual equivalent compound rate is 12.68%
per annum (1.0112 1).
The interest on corporate bonds and government bonds is usually payable twice yearly. The
amount of interest paid (each six months) is the disclosed interest rate divided by two and
multiplied by the principal. The yearly compounded rate is higher than the disclosed rate.
Canadian mortgage loans are generally compounded semi-annually with monthly (or more
frequent) payments.[1]
U.S. mortgages use an amortizing loan, not compound interest. With these loans,
an amortization schedule is used to determine how to apply payments toward principal and
interest. Interest generated on these loans is not added to the principal, but rather is paid off
monthly as the payments are applied.
It is sometimes mathematically simpler, e.g. in the valuation of derivatives, to use continuous
compounding, which is the limit as the compounding period approaches zero. Continuous
compounding in pricing these instruments is a natural consequence of It calculus,
where financial derivatives are valued at ever increasing frequency, until the limit is
approached and the derivative is valued in continuous time.

LESSON 25
COMPOUND INTEREST
is the addition of interest to the principal sum of a loan or deposit, or in other words, interest on
interest. It is the result of reinvesting interest, rather than paying it out, so that interest in the next
period is then earned on the principal sum plus previously-accumulated interest. Compound
interest is standard in finance and economics.
Compound interest may be contrasted with simple interest, where interest is not added to the
principal, so there is no compounding. The simple annual interest rate is the interest amount per
period, multiplied by the number of periods per year. The simple annual interest rate is also known
as the nominal interest rate (not to be confused with the interest rate not adjusted for inflation,
which goes by the same name).

Compounding frequency
The compounding frequency is the number of times per year (or other unit of time) the
accumulated interest is paid out, or capitalized(credited to the account), on a regular basis. The
frequency could be yearly, half-yearly, quarterly, monthly, weekly, daily, or continuously (or not
at all, until maturity).
For example, monthly capitalization with annual rate of interest means that the compounding
frequency is 12, with time periods measured in months.
The effect of compounding depends on:
1. The nominal interest rate which is applied and
2. The frequency interest is compounded.
Annual equivalent rate
The nominal rate cannot be directly compared between loans with different compounding
frequencies. Both the nominal interest rate and the compounding frequency are required in order
to compare interest-bearing financial instruments.
To assist consumers compare retail financial products more fairly and easily, many countries
require financial institutions to disclose the annual compound interest rate on deposits or advances
on a comparable basis. The interest rate on an annual equivalent basis may be referred to variously
in different markets as annual percentage rate (APR), annual equivalent rate (AER), effective
interest rate, effective annual rate, annual percentage yield and other terms. The effective annual
rate is the total accumulated interest that would be payable up to the end of one year, divided by
the principal sum.
There are usually two aspects to the rules defining these rates:
1. The rate is the annualised compound interest rate, and
2. There may be charges other than interest. The effect of fees or taxes which the customer is
charged, and which are directly related to the product, may be included. Exactly which
fees and taxes are included or excluded varies by country. may or may not be comparable
between different jurisdictions, because the use of such terms may be inconsistent, and
vary according to local practice.

Mathematics of interest rate on loans

Periodic compounding
The total accumulated value, including the principal sum P plus compounded interest I, is given
by the formula:

where:
P is the original principal sum
P' is the new principal sum
r is the nominal annual interest rate
n is the compounding frequency
t is the overall length of time the interest is applied (usually expressed in years).
The total compound interest generated is the final value minus the initial principal:

Example 1
Suppose a principal amount of 1500 is deposited in a bank paying an annual interest rate of
4.3%, compounded quarterly.
Then the balance after 6 years is found by using the formula above, with P = 1500, r = 0.043
(4.3%), n = 4, and t = 6:
So the new principal P1 after 6 years is approximately $1,938.84.
Subtracting the original principal from this amount gives the amount of interest received:

Example 2.
Suppose the same amount $1,500 is compounded biennially (every 2 years).
Then the balance after 6 years is found by using the formula above, with P = 1500, r = 0.043
(4.3%), n = 1/2 = 0.5 (the interest is compounded every two years), and t = 6:

So, the balance after 6 years is approximately $1,921.24.

The amount of interest received can be calculated by subtracting the principal from this amount.

The interest is less compared with the previous case, as a result of the lower compounding
frequency.
Accumulation function
Since the principal P is simply a coefficient, it is often dropped for simplicity, and the
resulting accumulation function is used instead. The accumulation function shows what $1 grows
to after any length of time. Accumulation functions for simple and compound interest are

Continuous compounding
As n, the number of compounding periods per year, increases without limit, we have the case
known as continuous compounding, in which case the effective annual rate approaches an upper
limit of er 1, where e is a mathematical constant that is the base of the natural logarithm.
Continuous compounding can be thought of as making the compounding period infinitesimally
small, achieved by taking the limit as n goes to infinity. See definitions of the exponential
function for the mathematical proof of this limit. The amount after t periods of continuous
compounding can be expressed in terms of the initial amount P0 as
Force of interest

As the number of compounding periods n reaches infinity in continuous compounding, the

continuous compound interest is referred to as the force of interest &.
In mathematics, the accumulation functions are often expressed in terms of e, the base of
the natural logarithm. This facilitates the use of calculus to manipulate interest formulae.
For any continuously differentiable accumulation function a(t), the force of interest, or more
generally the logarithmic or continuously compounded return is a function of time defined as
follows:

This is the logarithmic derivative of the accumulation function.

Conversely:

this can be viewed as a particular case of a product integral).

When the above formula is written in differential equation format, then the force of interest is
simply the coefficient of amount of change:

For compound interest with a constant annual interest rate r, the force of interest is a constant,
and the accumulation function of compounding interest in terms of force of interest is a simple
power of e:

The force of interest is less than the annual effective interest rate, but more than the annual
effective discount rate. It is the reciprocal of the e-folding time. See also notation of interest
rates.

A way of modeling the force of inflation is with Stoodley's formula: where

p, r and s are estimated.

Compounding basis
To convert an interest rate from one compounding basis to another compounding basis, use

where r1 is the interest rate with compounding frequency n1, and r2 is the interest rate with
compounding frequency n2.
When interest is continuously compounded, use
EXAMPLES:
Problem 1. A sum of Rs. 25000 becomes Rs. 27250 at the end of 3 years when calculated at
simple interest. Find the rate of interest.
Solution:
Simple interest = 27250 25000 = 2250
Time = 3 years.
SI = PTR / 100 R = SI * 100 / PT
R = 2250 * 100 / 25000 * 3 R = 3%.

Problem 2. Find the present worth of Rs. 78000 due in 4 years at 5% interest per year.
Solution:
Amount with interest after 4 years = Rs. 78000
Therefore, simple interest = 78000 Principal.
Let the principal amount be p.
78000 p = p*4*5/100 p=13000
Principal = 78000 13000 = Rs. 65000

Problem 3. A certain principal amounts to Rs. 15000 in 2.5 years and to Rs. 16500 in 4 years at
the same rate of interest. Find the rate of interest.
Solution:
Amount becomes 15000 in 2.5 years and 16500 in 4 years.
Simple interest for (4-2.5) years = 16500 15000
Therefore, SI for 1.5 years = Rs. 1500.
SI for 2.5 years = 1500/1.5 * 2.5 = 2500
Principal amount = 15000 2500 = Rs. 12500.
Rate of Interest = 2500 * 100 / 12500 * 2.5 R = 8%.

EXERCISES:
1. Find the compound interest on Rs. 3000 at 5% for 2 years, compounded annually.
2. Find the compound interest on Rs. 10000 at 12% rate of interest for 1 year, compounded
half-yearly.
3. The difference between SI and CI compounded annually on a certain sum of money for 2
years at 8% per annum is Rs. 12.80. Find the principal.
LESSON 26
COMPOUNDING MORE THAN ONE A YEAR
To begin, suppose that interest is paid semiannually. If you deposit 100 dollars in a saving account
at a nominal 8 percent annual nominal interest rate, the future value at the end of six months would
be:

FV0.5= $100[1 + (0.08/2)]

FV0.5= $104

Where FV0.5 = Future value after half year or after six months
And so interest is also divided in half i.e. 0.08/2 = 0.04

Nominal Interest Rate:

A rate of interest that has not been adjusted for frequency of compounding.

So it means if interest is compounding more than once year the effective interest rate will be higher
than the nominal interest rate.

Now lets see

We take data from our previous example

So if we calculate compounding once in a year our future value would be:

FV1 = $100(1 + 0.08) power 1
FV1 =$108

(Calculate Future Value of your amount here)

Now If we calculate compounding more than once in a year our future value would be:
FV1= $100[1 + (0.08/2)] power 2
FV1=108.16

The difference $0.16 is caused by interest being earned at semi annual basis.

We have learnt one thing from here:

"The more times interest is compounded in the year, the greater the future value will be"

Continuous Compounding
The number of times a year that interest is compounded, approaches infinity ()
So Future Value of continuous compounding amount would be:
FV = PV (e) power (in)

Where e is approximately 2.71828

And in= interest and number of years
 For example, the future value of a $100 deposit at the end of three years with continuous
compounding at 5 percent would be:
FV3= $100(2.71828) power (0.05)(3)
FV3= $116.18

Effective Annual Interest Rate

It is the actual rate of interest earned after adjusting the nominal rate for number of compounding
periods per year.

So
Effective annual interest rate = (1 + [i/m]) power m -1
Where m denotes the compounding number of periods

For example
If a saving plan offered a nominal interest rate of 5 percent compounded quarterly
Then the effective annual interest would be:
[{1 + (0.05/4)} power 4] -1
Effective annual interest rate = 0.051

Here we have learnt one thing that,

The more the compounding periods, the greater the future values of the deposit athe greater the
effective annual interest rate.

EXAMPLES:
1. Find the maturity value and interest if P10,000 is deposited in a bank at 2% compounded
monthly for 5 years.
Solution.

Answer: The compound interest is given by

Ic =F ?P =11,050.79?10,000=P1,050.79
2. Cris borrows P50,000 and promises to pay the principal and interest at 12% compounded
monthly. How much must he repay after 6 years?

Answer: Thus, Cris must pay P102,354.97 after 6 years.

3. Find the present value of P50,000 due in 4 years if money is invested at 12%
compounded semiannually.
EXERCISES:

Solve the following problems on compound interest.

1. Accumulate P15,000 for 2 years at 15% compounded monthly.

2. How much should Kaye set aside and invest in a fund earning 2% compounded quarterly if she
needs P75,000 in 15 months?

3. Peter is planning to invest P100,000. Bank A is offering 5% compounded semi-annually while

Bank B is offering 4.5% compounded monthly. If he plans to invest this amount for 5 years, in
which bank should he invest?

LESSON 27
FINDING INTEREST RATE AND TIME IN COMPOUND INTEREST

The effective interest rate, effective annual interest rate, annual equivalent rate (AER) or
simply effective rateis the interest rate on a loan or financial product restated from the nominal
interest rate as an interest rate with annual compound interest payable in arrears.
It is used to compare the annual interest between loans with different compounding periods like
week, month, year, etc. The effective interest rate differs in two important respects from the annual
percentage rate (APR):[1]
1. the effective interest rate generally does not incorporate one-time charges such as front-
end fees;
2. the effective interest rate is (generally) not defined by legal or regulatory authorities (as
APR is in many jurisdictions).[2]
By contrast, the effective APR is used as a legal term, where front-fees and other costs can be
included, as defined by local law.[1][2]
Annual percentage yield or effective annual yield is the analogous concept used for savings or
investment products, such as a certificate of deposit. Since any loan is an investment product for
the lender, the terms may be used to apply to the same transaction, depending on the point of view.
Effective annual interest or yield may be calculated or applied differently depending on the
circumstances, and the definition should be studied carefully. For example, a bank may refer to
the yield on a loan portfolio after expected losses as its effective yield and include income from
other fees, meaning that the interest paid by each borrower may differ substantially from the bank's
effective yield.
Effective Annual Rate Based on Frequency of Compounding
Nominal Rate Semi-Annual Quarterly Monthly Daily Continuous
1% 1.003% 1.004% 1.005% 1.005% 1.005%
5% 5.063% 5.095% 5.116% 5.127% 5.127%
10% 10.250% 10.381% 10.471% 10.516% 10.517%
15% 15.563% 15.865% 16.075% 16.180% 16.183%
20% 21.000% 21.551% 21.939% 22.134% 22.140%
 30% 32.250% 33.547% 34.489% 34.969% 34.986%
40% 44.000% 46.410% 48.213% 49.150% 49.182%
50% 56.250% 60.181% 63.209% 64.816% 64.872%

Calculator Use

Convert a nominal interest rate from one compounding frequency to another while
keeping the effective interest rate constant.

Given the periodic nominal rate r compounded m times per per period, the equivalent
periodic nominal rate i compounded q times per period is

i=q[(1+rm)mq1]i=q[(1+rm)mq1]

where r = R/100 and i = I/100.

For example, you have a loan at an annual rate of 4% that compounds monthly (m=12)
however your payments are made quarterly (q=4) so your interest will be calculated
quarterly. What is the equivalent annual rate that coincides with quarterly compounding?
4.0133%

i=4[(1+0.0412)1241]i=4[(1+0.0412)1241]
i=0.040133

LESSON 28:
SIMPLE ANNUITY
- A simple annuity is defined as an investment vehicle designed to accept, grow and, upon
annuitization, payout a stream of income. Annuities are offered by insurance
companies. The insurance company is in charge of your money and is contractually
obligated to see that you get paid the agreed upon amounts.
- An annuity in which the payment period is same as the interest period (conversion period)
Payment period time between successive period of annuity.
Term time from the beginning of the first payment period to the last payment
period.
Periodic Payment (R) size of each annuity payment
- For you linguists out there the word annuity comes from the Medieval Latin word
annuitas, meaning yearly or year.
- In short a specified amount of money that is paid during specific intervals. The amount
depends on the type of annuity and amount of funds you make available. Annuities are
often a major part of retirement income streams, providing dependable income.
- You can receive a set monthly amount for the rest of your life if that is how you wish
your annuity to be set up.
Variety of Options
 Pay out as long as ones spouse is alive
Pay out for a fixed amount of years regardless if the investor passes away during
the term
Fix in high interest rates to give you an advantage when rates are low
Guarantee a payment to your heirs
Some will not pass to your heirs, but provide you with better payment options
while alive
Elements of Annuity
A = amount of periodic payment
P = present amount of all periodic payments
F = future worth of all periodic payments after the last payment is made
i = interest rate per compounding period
n = total number of payments
m = nominal rate (see compounded interest)
t = number of years

EXAMPLES:
1. Alan decides to set aside $50 at the end of each month for his childs college education. If
the child were to be born today, how much will be available for its college education when
s/he turns 19 years old? Assume an interest rate of 5% compounded monthly.
Solution:
First, we assign all the terms:
R= $50
i= 0.05/12 or 0.004166
n= 18 x 12, or 216
Now substituting into our formula, we have:
R[(1+i)^n-1]
S n = -
i
$50[(1+0.05/12)^216 -1]
S n =
0.05 / 12
S n = $50(349.2020206)
S n = $17,460.10

Formula for calculating present value of a simple annuity:

R[1-(1+i)^-n]
A n =
i

2. Alan asks you to help him determine the appropriate price to pay for an annuity offering a
retirement income of $1,000 a month for 10 years. Assume the interest rate is 6%
compounded monthly.
 Solution:
Substituting into our formula, we have:
R = $1,000
i = 0.06 /12 or 0.005
n = 12 x 10, or 120
$1,000[1-(1+0.005)^-120]
A n =
0.005
A n = $90,073.45

Annuity Due:
In an annuity due, the payments occur at the beginning of the payment period.
For calculating the sum of a series of regular payments the following formula should be
used:
R(1+i)[(1+i)^ n -1]
S n (due)=
i
3. Alan wants to deposit $300 into a fund at the beginning of each month. If he can earn 10%
compounded interest monthly, how much amount will be there in the fund at the end of 6
years?
Solution:
R = $300
i = 0.10/12 or 0.008333
n = 12 x 6 or 72
Substituting into our formula yields:
$300(1+0.10/12)[(1+0.10/12)^72-1]
S n (due) = -
0.10/12
S n (due) = $300(98.93)
S n (due) = $29,679

EXERCISES:
1. Find the PVOA (Present Value of Ordinary Annuity) factor. This is the ratio of the
annual payment to the PVOA. Divide the PVOA by the desired annual payment.
For example, if the value of the annuity is $10,000 and you want a payout of $1,200
per year for 10 years, the PVOA factor is $10,000/$1,200, or 8.33.
2. A 31-inch LCD television costs P61,990. Stanley bought one by making a down
payment of P7,000 and paying P5,040.75 at the end of every 3 months for 3 years.
At what rate converted quarterly was the interest charged?
3. Marian invests P11,600 at the end of each year in a fund. If she wants to have
P246,500 in the fund for 14 years, at what rate compounded annually should the
money be invested?
4. A video camera is worth P35,950. Nancee bought one by paying P5,000 and an
equal payment at the end of each month for 18 months. Find the equal payment if
the interest rate is 18% m=12.
 5. The citizen cottage industry has a high-speed sewing machine that will retire in 5
years. How much must be set aside each 3 months in order to buy a sewing machine
that cost P720,000 to replace the old one if the fund is invested at 8% compounded
quarterly?

LESSON 29:
GENERAL ANNUITY
- the payment period is not the same as the interest period. There are many situations where
the payment for example is made quarterly but the money compounds in another period,
say monthly. To deal with general annuity, we can convert it to simple annuity by making
the payment period the same as the compounding period by the concept of effective rates.

EXAMPLE:
1.

2.
 3.

EXERCISES:
1.) What deposit made at the beginning of each month will accumulate to $120,000 at 8%
compounded semi-annually at the end of 10 years?

2.) Laura wants to accumulate $150,000 in her bank account by depositing $1000 at the
beginning of each month. If interest on the account is 5% compounded quarterly, for
how long does Laura have to deposit the money?

3.) James deposited $150 at the beginning of each month for two years into his savings
account. For the next four years he did not make any more deposits, leaving the money
in the account. The bank charges 4% interest compounded monthly. What will the
balance be after 12 years?

4.) A four-year lease agreement requires payments of $10,000 at the beginning of every
year. If the interest rate is 6% compounded monthly, what is the cash value of the lease?

5.) Find the FV (Future Value) at the end of the last payment period. Payments of $1000
each are made at the beginning of each year for 3 years with interest at 5% compounded
annually.

LESSON 30:
DEFERED ANNUITY
- is a type of annuity that delays monthly or lump-sum payments until an investor-specified
date. The interest usually grows tax-deferred before it is withdrawn.
- With a deferred annuity, you deposit your funds with an insurance company (by investing
in either a fixed, variable, equity-indexed, or longevity annuity contract) and the taxes on
any investment gains are deferred until such time as you take a withdrawal. Any gain
 withdrawn prior to your age 59 will be subject to a 10% penalty tax in addition to
ordinary income taxes.
- Written into your deferred annuity contract will be the option to turn your deferred annuity
into an immediate annuity after a certain amount of time has passed; essentially you are
letting your earnings defer until such time as you desire to turn the investment into a
guaranteed stream of income.
- Deferred annuities can come with all sorts of features (at a cost) that provide specific types
of death benefits and/or future income guarantees. Here is an overview of four main types
of deferred annuities; fixed, variable, equity-indexed, and longevity.
Fixed Deferred Annuity
- A fixed deferred annuity works much like a certificate of deposit; except, instead of
having to claim the interest income on your tax return each year, the interest is deferred
until such time as you take a withdrawal from the annuity contract. When you purchase
a deferred fixed annuity, the insurance company will tell you the guaranteed interest
rate your funds will earn.
- For risk adverse investors who will not need the interest income from their investment
until age 59 or later, fixed annuities can be an attractive option. Before you buy a
fixed annuity compare the return being offered to other safe investment choices like
certificates of deposit, and government bonds.
Variable Deferred Annuity
- Investing in a variable deferred annuity is a lot like owning a group of mutual funds.
These mutual funds are called sub-accounts when they are in an annuity. You have
control over the amount of investment risk you have by choosing from a pre-selected
list of sub-accounts including both bond and equity investments.
- Your investment returns will vary depending on the performance of those underlying
sub-accounts.
- Over the long haul, over most market conditions, investors are likely to be better off
investing in a portfolio of index mutual funds, rather than a variable annuity, for the
following two reasons:
1. Beware of Variable Annuity Tax Deferral - Because the investments are inside of an
annuity, all taxes are deferred until such time as you take a withdrawal. The tax deferral
of a variable annuity is often touted as an advantage by annuity salespeople, but for
many, it can actually turn out to be a disadvantage. Taxes may be higher in retirement,
not lower.
2. Variable Annuity Riders and Death Benefits Come at High Costs - Annuity
companies provide a whole array of features called riders. These riders can
provide death benefit guarantees and future income guarantees, often at high costs
which erode your investment returns. Many annuities with these features are charging
fees of over 3% a year.
Equity-Indexed Annuity
- An equity-indexed annuity functions like a fixed annuity in some ways, and like a
variable annuity in other ways. Technically, it is a type of fixed annuity.
- Equity-indexed annuities have two components: a minimum guaranteed return, and
the possibility of earning a higher return by crediting your account with a return based
on a formula that is tied to a popular stock market index, such as the S&P 500 Index.
 - The formulas inside equity-indexed annuities are often difficult for an average person
to understand, and equity-indexed annuities often have high surrender charges (lasting
for ten to fifteen years).
Longevity Annuity
- When you purchase a longevity annuity, it is like purchasing long life expectancy
insurance. For example, suppose at age 60, you deposit $100,000 in a longevity
annuity. The insurance company guarantees to provide you with a specified amount of
life-long income at your age 85. This would leave you free to spend other assets,
knowing you had a guaranteed stream of income to support you later in life. The taxes
and income on this type of annuity are deferred until age 85 when you start taking the
money out.

EXAMPLE:
1. Carol Calc plans on retiring on her 60th birthday. She wants to put the same amount of
funds aside each year for the next twenty years -- starting next year -- so that she will be
able to withdraw $50,000 per year for twenty years once she retires, with the first
withdrawal on her 61st birthday. Carol is 20 years old today. How much must she set aside
each year for her retirement if she can earn 10% on her funds?
PV60 = $50,000 (PV annuity factor for N=20, i=10%)
PV60 = $50,000 (8.5136)
PV60 = $425,678.19
Because she will stop making payments on her 40th birthday (first is on her 21st birthday,
last is on her 40th birthday), we must calculate the balance in the account on her 40th
birthday:
PV40 = PV60 / (1 + 0.10)20 = $63,274.35
Then, we need to calculate the deposits necessary to reach the goal:
FV40 = PV40 = $63,274.35
N = 20
i = 10%
FV = CF (FV annuity factor for N=20, i=10%)
$63,274.35 = CF (FV annuity factor for N=20, i=10%)
$63,274.35 = CF (57.2750)
CF =payment = $1,104.75 per year

2. The Trust Worthy loan company is willing to lend you $10,000 today if you promise to
repay the loan in six monthly payments of $2,000 each, beginning today. What is the
effective annual interest rate on Trust Worthy's loan terms?
Use the present value of an annuity due to approach this problem (because the first
payment is today).
PV = $10,000
CF = $2,000
N=6
PV annuity due = CF (PV annuity factor for N=6, i=?)(1 + i)
$10,000 = $2,000 (PV annuity factor for N=6, i=?)(1 + i)
5 = (PV annuity factor for N=6, i=?)(1 + i)
 Through trial error using the tables for N=6 such that the factor multiplied by 1+ i
is equal to 5,
i = 8%
precise answer for i= 7.9308%
EAR = (1 + 0.079308)12 - 1 = 149.89%
Want an easier way to do this problem? OK, if TW lends you $10,000 and you
repay $2,000 immediately, you are really only borrowing $10,000 - 2,000 = $8,000.
Therefore, you can use the ordinary annuity approach, modifying the PV and N:
PV = $8,000
CF = $2,000
N=5
Solve for i for an ordinary annuity:
PV = CF (PV annuity factor for N=5, i = ?)
$8,000 = $2,000 (PV annuity factor for N=5, i = ?)
4.000 = PV annuity factor
Using the tables, i = 8% (factor is 3.9927)
Using a calculator, i = 7.9308%

3. Have I got a deal for you! If you lend me $100,000 today, I promise to pay you back in
twenty-five annual installments of $5,000, starting five years from today (that is, my first
payment to you is five years from today). You can earn 6% on your investments. Will you
lend me the money?
This is a deferred annuity problem
CF = $5,000
N = 25
i = 6%
PV4 = $5,000 (PV annuity factor for N=25 and i=6%)
PV4 = $5,000 (12.7834)
PV4 = $63,916.78
PV0 = $63,916.78 / (1 + 0.06)4 = $50,628.08

EXERCISES:
1. Mora Money wants to save for her retirement. Her goal is to retire at 60 years of age and
have $50,000 per year to live on for thirty years, with the first withdrawal on her
61st birthday and her last withdrawal on her 90thbirthday. Mora is 25 years old today and
wants to begin making deposits to save for her retirement beginning next year, with the last
deposit on her 60th birthday. She figures she can earn 4% on her investments. How much
must Mora deposit each year to meet her retirement objective?
Step 1: Solve for balance needed prior to retirement
Step 2: Solve for payment needed to reach the goal
2. Determine that a 6% rate of return will be a good assumption for the growth, both from
now until he starts college and during the four years of college. You figure the average
historical return on the stock market has been 12%, so you will cut it in half to be
conservative. However, you assume monthly compounding the first 19 years and annual
compounding during HBS. You plan on your last payment being on the same day as the
first annual tuition check of $60k is due. If you plan to invest the same amount each month
 for the next 19 years, how much will your monthly payment need to be to pay for your
sons education?
3. The problem I'm trying to figure out says that a debt of 60,000 will be repaid over 6 years
by making payments of 4000 quarterly for the first 3 years, followed by a year where no
payments are made, then quarterly payments again in the final two years. I have to find the
size of the payments for the final two years at an annual rate of 12%.
4. The terms of a single parent's will indicate that a child will receive an ordinary annuity of
$16000.00 per year from age 18 to age 24(so the child can attend college) and that the
balance of the estate goes to a niece. If the parent dies on the child's 14th birthday, how
much money must be removed from the estate to purchase the annuity? ( Assume an
interest rate of 6% compounded annually).
5. Given: THE present value of an annuity-due that pays 300 every 6 months during the first
15 years and 200 every 6 months during the second 15 years is 6000; THE present value
of a 15-year deferred annuity-due that pays 350 every 6 months for 15 years is 4000;and
THE present value of an annuity-due that pays 100 every 6 months during the first 15 years
and 200 every 6 months during the next 15 years is X.
The same interest rate is used in all calculations. Determine X.

LESSON 31:
STOCK AND BONDS
- Investors are always told to diversify their portfolios between stocks and bonds, but whats
the difference between the two types of investments? Here, we look at the difference
between stocks and bonds on the most fundamental level.

Stocks Are Ownership Stakes, Bonds are Debt

- Stocks and bonds represent two different ways for an entity to raise money to fund or
expand their operations. When a company issues stock, it is selling a piece of itself in
exchange for cash.
- When an entity issues a bond, it is issuing debt with the agreement to pay interest for the
use of the money.
- Stocks are simply shares of individual companies. Heres how it works: say a company
has made it through its start-up phase and has become successful. The owners wish to
expand, but they are unable to do so solely through the income they earn through their
operations. As a result, they can turn to the financial markets for additional financing. One
way to do this is to split the company up into shares, and then sell a portion of these
shares on the open market in a process known as an initial public offering, or IPO. A
person who buys Stock, is therefore buying an actual share of the company, which makes
him or her a part owner however small. This is why Stock is also referred to as equity.
- Bonds, on the other hand, represent debt. A government, corporation, or other entity that
needs to raise cash borrows money in the public market and subsequently pays interest on
that loan to investors.
- Each bond has a certain par value (say, $1000) and pays a coupon to investors. For
instance, a $1000 bond with a 4% coupon would pay $20 to the investor twice a year ($40
annually) until it matures. Upon maturity, the investor is returned the full amount of his or
her original principal except for the rare occasion when a bond defaults (i.e., the issuer is
unable to make the payment).
 The Difference Between Stocks and Bonds for Investors
- Since each share of stock represents an ownership stake in a company meaning the owner
shares in the profits and losses of the company - someone who invests in the stock can
benefit if the company performs very well and its value increases over time. At the same
time, he or she runs the risk that the company could perform poorly and the stock could go
down or, in the worst-case scenario (bankruptcy) disappear altogether.
- Individual stocks and the overall stock market tend to be on the riskier end of the
investment spectrum in terms of their volatility and the risk that the investor could lose
money in the short term. However, they also tend to provide superior long-term returns.
Stocks are therefore favored by those with a long-term investment horizon and a tolerance
for short-term risk.
- Bonds lack the powerful long-term return potential of stocks, but they are preferred by
investors for whom income is a priority. Also, bonds are less risky than stocks. While their
prices fluctuate in the market sometimes quite substantially in the case of higher-risk
market segments - the vast majority of bonds tend to pay back the full amount of principal
at maturity, and there is much less risk of loss than there is with stocks.

Stocks: Buying part ownership in a corporation

- When an investor buys shares of stock, he or she buys part ownership in a corporation. As such,
the value of that corporation's stock will tend to reflect the earnings experience of the firm up
during profitable periods and down during periods of loss. Generally speaking, the higher the
potential return, the higher the risk. For example, stock investors expect a fairly high rate of return
because there is no schedule of repayment and no stated rate of return like that paid by fixed-income
securities such as bonds.
Blue chip vs. small cap
- Even within the world of stocks, there are variations in risk and reward. "Blue chip" stocks are
issues of companies that are well established within their respective industries and have long
histories of producing earnings and paying dividends. Small capitalization, or "small cap," stocks
represent shares in companies that are less established. Because of this, they have the potential for
tremendous growth, which can translate into a large return for investors. Coupled with this,
however, is a higher potential for decrease in their value than you would expect from well-
established companies.

Bonds: Making a loan to a corporation

- Bonds represent loans made by investors to companies and other entities, such as branches of
government, that have issued the bonds to attract capital without giving up managing control. A
bondholder, in effect, holds an IOU.
- Bondholders do not share in a company's profits. Rather, they receive a fixed return on their
investment. This return, stated as an interest rate on the bond, is called the "coupon rate" and is a
percentage of the bond's original offering price.
- Bonds are issued for specified time periods. When the bond expires and the principal (original
investment) is returned, the bond is said to have matured. Bonds can take as long as 30 years to
 mature. Time to maturity and the issuer's ability to make good on its payment obligations are the
two most important factors in choosing individual bonds to purchase.
- Every bond carries the risk that a promised payment will not be made in full or on time. As
uncertainty of repayment rises, investors demand higher levels of return in exchange for assuming
greater risk.
- Potential bond buyers can assess an issuer's ability to meet its debt obligations by considering the
bond rating assigned by agencies such as Moody's Investors Service or Standard & Poor's. A rating
indicating a high likelihood of repayment will allow an issuer to sell its bonds with a lower coupon
rate than one that received a poorer rating.
- Bonds, similar to common stocks, fluctuate in market value and, if sold prior to maturity, may
produce a gain or a loss in principal value.
Government vs. corporate bonds
- U.S. government and U.S. government agency bonds are considered the safest bond investments.
They are not insured but are backed by the "full faith and credit" of the U.S. government with
respect to both principal and interest.
- Also available are mortgage-backed securities, which in many cases are fully backed by a U.S.
government agency.
- Corporate bonds are generally issued by industrial corporations, financial firms, public utilities, and
transportation companies. They usually pay more interest than government bonds but carry a
greater risk of default. If a corporation goes bankrupt, bondholders have priority claim, before
stockholders, on the company's assets.

Understanding the differences between stocks and bonds

- An important distinction when weighing the rewards of stocks vs. bonds is that stocks have
(theoretically) an unlimited ability for appreciation. That is, there is no upper limit to how valuable
they can become.
- On the other hand, a bond buyer generally knows the upper limit to expect on such an investment,
especially if it is held to maturity. It is true that a bond can sell at a premium prior to maturity, but
the potential for appreciation here is nowhere near as great as it is for stocks.
- Both options have their risks as well. With stocks, although theoretically there may be no ceiling,
there is a bottom. Stocks can drop in value and become worthless. With bonds, there is interest rate,
inflation and credit risk. Credit risk is the risk that the bond issuer will be unable to make its
payments on time or at all, effectively defaulting on the bonds.
Return potential
- The following chart shows the growth of $1 invested in the stocks listed in the S&P 500 Index
(stocks) versus $1 invested in the bonds listed in the Barclays Capital US Aggregate Bond Index
(bonds). While historical performance cannot guarantee future performance, an investment in
stocks during this period would have significantly outperformed a bond investment.
 If you have a long time before retirement, stocks appear to have substantial advantages because
there is more time for the market to correct any downturn that may cause a decrease in value of the
stock. However, concentrating too heavily on stocks at any age can mean missing the
significant benefits bonds may offer. Should bonds be part of your portfolio now? Perhaps. Nearly
every investor has some financial needs that bonds could potentially fill.
If you need a shorter-term strategy, you might do better to consider bonds. Although bonds may
not perform as well as stocks over any period in which major market downturns do not occur, they
are useful tools in their ability to hedge against market fluctuations and the normal ups and downs
of the economy.
EXAMPLE:
Stock Valuation Practice Problems
1. The Bulldog Company paid $1.5 of dividends this year. If its dividends are expected to
grow at a rate of 3 percent per year, what is the expected dividend per share for Bulldog
five years from today?
2. The current price of XYZ stock is $25 per share. If XYZs current dividend is $1 per
share and investors required rate of return is 10 percent, what is the expected growth rate
of dividends for XYZ, based on the constant growth dividend valuation model?
3. Consider each of the following stocks, and solve for the missing element:
Current Expected Required Value of year's growth in
rate of a share
Stock dividend dividends return of stock
 A 5% $1.00 3%
B 4% 6% $26.000
C $1.00 10% $21.000
D $0.75 2% $7.650
E $1.10 4% 10%

4. Identify the relation between a stocks price and the factors that determine the price,
based on the constant-growth dividend valuation model:
Relationship with share price
Factor Positive or Negative
Current dividend
Expected growth rate of
dividends
Required rate of return

For example, the relationship is positive if an increase in the factor results in an increase
in the share price.

Solutions to Stock Valuation Practice Problems

1. D5 = D0 (1 + g)5 = $1.5 (1 + 0.03)5 = $1.5 1.15927 = $1.73891
2. P0 = D0 (1 + g) (re g)
$25 = $1 (1 + g) / (0.10 g)
$25 (0.10-g) = $1 + g
$2.5 25g = $1 + g
$1.5 = 26 g g =
5.7692%

3.
Current Expected Required Value of year's growth in rate of
a share
Stock
A 5% dividend
B 4% 6% dividends
C $1.00 10% return of stock
D $0.75 $1.00 3%
E $1.10 $26.000
$21.000
2% $7.650
4% 10%
4.
Relationship with share price
 Factor Positive or Negative
Current dividend Positive
Expected growth rate of Positive
dividends
Negative
Required rate of return

EXERCISES:
1. You are evaluating a 9% coupon corporate bond with a face value of $1000. The bond
matures in six years. The yield to maturity is 6.8% and the coupon is paid annually.
a. What should be the current price of the bond?
b. Draw the timeline for this bond, showing current price, coupon payments, face
value, years to maturity and yield to maturity.

2. The E. Harris Company issued bonds on February 1, 1992. When issued, the bonds had
20 years to maturity, a coupon rate of 7.5% and sold for their face value of $1,000.
Now, on February 1, 2002, the bond price has risen to $1,110.40. What is the current
yield to maturity (assume that the bonds make annual coupon payments)?

3. Suppose you are asked to analyze three bonds. Bond A matures in 1 year, Bond B
matures in 5 years, and Bond C matures in 15 years. Each of the three bonds has a
coupon rate of 6% (paid annually) and a yield to maturity is 3.8%.
a. What is the current market price for each bond?
b. Compute a new market price for Bond A, Bond B and Bond C at the following
two yields to maturity: YTM = 5% and YTM = 10%.
c. Draw a graph showing the prices of these bonds at the different yields. Put all
the bonds on the same graph, and show one line on the graph for each bond. Put
price on the y-axis and YTM on the x-axis. Make sure to clearly label your graph
so that it shows the relationship between bond prices and yields
d. Based on your graph, clearly describe the relationship between time to maturity
and the sensitivity of bond prices to rate fluctuations.

4. Consider a bond with a face value of $1,000, currently selling for $1,349.96, and
maturing in 11 years. If this bond pays coupons semiannually and its yield to maturity
is 4.03%, what is the coupon rate?

5. Suppose that you want to determine the fair price today for the shares of stock in
Coulthard, Inc., and you believe the return on this stock should be 16%. The stock just
paid an annual dividend of $2 per share, and that amount is expected to increase 5%
per year indefinitely. What should todays price be?
LESSONS 32:
MARKET INDICES FOR STOCKS AND BONDS
- A BOND INDEX or bond market index is a method of measuring the value of a section
of the bond market. It is computed from the prices of selected bonds (typically a weighted
average). It is a tool used by investors and financial managers to describe the market, and
to compare the return on specific investments.
- An index is a mathematical construct, so it may not be invested in directly. But
many mutual funds and exchange-traded funds attempt to "track" an index (see index
fund), and those funds that do not may be judged against those that do.
- A STOCK INDEX or stock market index is a measurement of the value of a section of
the stock market. It is computed from the prices of selected stocks (typically a weighted
average). It is a tool used by investors and financial managers to describe the market, and
to compare the return on specific investments.
- An index is a mathematical construct, so it may not be invested in directly. But
many mutual funds and exchange-traded fundsattempt to "track" an index (see index fund),
and those funds that do not may be judged against those that do.

Types of indices (Bonds)

- Bond indices can be categorized based on their broad characteristics, such as whether they
are composed of government bonds, municipal bonds, corporate bonds, high-yield
bonds, mortgage-backed securities, syndicated or leveraged loans, etc. They can also be
classified based on their credit rating or maturity.
- Bond indices tend to be total rate-of-return indices and are used mostly as such: to look at
performance of a market over time. In addition to returns, bond indices generally also have
yield, duration, and convexity, which is aggregated up from individual bonds.
- Bond indices generally include more individual securities than stock market indices do,
and are broader and more rule-based. This allows portfolio managers to predict which type
of issues will be eligible for the index.

Types of indexes (Stock)

- Stock market indices may be classified in many ways. A 'world' or 'global' stock market
index such as the MSCI World or the S&P Global 100 includes stocks from multiple
regions. Regions may be defined geographically (e.g., Europe, Asia) or by levels of
industrialization or income (e.g., Developed Markets, Frontier Markets).
- A 'national' index represents the performance of the stock market of a given nationand
by proxy, reflects investor sentiment on the state of its economy. The most regularly quoted
market indices are national indices composed of the stocks of large companies listed on a
nation's largest stock exchanges, such as the American S&P 500, the Japanese Nikkei 225,
and the British FTSE 100.
- Other indices may be regional, such as the FTSE Developed Europe Index or the FTSE
Developed Asia Pacific Index. Indexes may be based on exchange, such as the NASDAQ-
100 or NYSE US 100, or groups of exchanges, such as the Euronext 100 or OMX Nordic
40.
- The concept may be extended well beyond an exchange. The Wilshire 5000 Index, the
original total market index, represents the stocks of nearly every publicly traded company
in the United States, including all U.S. stocks traded on the New York Stock Exchange (but
not ADRs or limited partnerships), NASDAQ and American Stock Exchange. Russell
Investment Group added to the family of indices by launching the Russel Global Index.[1]
- More specialized indices exist tracking the performance of specific sectors of the market.
Some examples include the Wilshire US REIT which tracks more than 80 American real
estate investment trusts and the Morgan Stanley Biotech Index which consists of
36 American firms in the biotechnology industry. Other indices may track companies of a
certain size, a certain type of management, or even more specialized criteria one index
published by Linux Weekly News tracks stocks of companies that sell products and
services based on the Linux operating environment.

Index versions (Stock)

- Some indices, such as the S&P 500, have multiple versions.[2] These versions can differ
based on how the index components are weighted and on how dividends are accounted for.
For example, there are three versions of the S&P 500 index: price return, which only
considers the price of the components, total return, which accounts for dividend
reinvestment, and net total return, which accounts for dividend reinvestment after the
deduction of a withholding tax.[3] As another example, the Wilshire 4500 and Wilshire
5000 indices have five versions each: full capitalization total return, full capitalization
price, float-adjusted total return, float-adjusted price, and equal weight. The difference
between the full capitalization, float-adjusted, and equal weight versions is in how index
components are weighted.

Weighting (Bonds)

- Most bond indices are weighted by market capitalization. This results in the bums problem,
in which less creditworthy issuers with a lot of outstanding debt constitute a larger part of
the index than more creditworthy ones.
- Weighting (Stock)
- An index may also be classified according to the method used to determine its price. In
a price-weighted index such as the Dow Jones Industrial Average, NYSE Arca Major
Market Index, and the NYSE ARCA Tech 100 Index, the price of each component stock
is the only consideration when determining the value of the index. Thus, price movement
of even a single security will heavily influence the value of the index even though the dollar
shift is less significant in a relatively highly valued issue, and moreover ignoring the
relative size of the company as a whole. In contrast, a capitalization-weighted (also called
market-value-weighted) index such as the S&P 500 or Hang Seng Index factors in the size
of the company. Thus, a relatively small shift in the price of a large company will heavily
influence the value of the index.
- Traditionally, capitalization- or share-weighted indices all had a full weighting, i.e. all
outstanding shares were included. Recently, many of them have changed to a float-adjusted
weighting which helps indexing.
- An equal-weighted index is one in which all components are assigned the same
value.[6] For example, the Barron's 400 Index assigns an equal value of 0.25% to each of
the 400 stocks included in the index, which together add up to the 100% whole.[7][8]
- A modified capitalization-weighted index is a hybrid between capitalization weighting and
equal weighting. It is similar to a capitalization weighting with one main difference: the
largest stocks are capped to a percent of the weight of the total stock index and the excess
weight will be redistributed equally amongst the stocks under that cap. Moreover, in 2005,
Standard & Poor's introduced the S&P Pure Growth Style Index and S&P Pure Value Style
Index which was attribute-weighted. That is, a stock's weight in the index is decided by the
score it gets relative to the value attributes that define the criteria of a specific index, the
same measure used to select the stocks in the first place. For these two indexes, a score is
calculated for every stock, be it their growth score or the value score (a stock cannot be
both) and accordingly they are weighted for the index.

Indices and passive investment management

- Bond indices are harder to replicate compared to stock market indices due to the large
number of issues. Usually, portfolio managers define suitable benchmarks for their
portfolios, and use an existing index or create blends of indices based on their investment
mandates. They then purchase a subset of the issues available in their benchmark, and they
use the index as a measure of the market portfolio's return to compare their own portfolio's
performance against. Often the average duration of the market may not be the most
appropriate duration for a given portfolio.[1] Replication of an index's characteristics can
be achieved by using bond futures to match the duration of the bond index.
- (STOCK) There has been an accelerating trend in recent decades to invest in passively
managed mutual funds that are based on market indices, known as index funds[12]. SPIVA's
annual "U.S. Scorecard," which measures the performance of indices versus actively
managed mutual funds, finds the vast majority of actively managed mutual funds
underperform their benchmarks[13]. One study[citation needed] claimed that over time, the
average actively managed fund has returned 1.8% less than the S&P 500 index - a result
nearly equal to the average expense ratio of mutual funds (fund expenses are a drag on the
funds' return by exactly that ratio). Since index funds attempt to replicate the holdings of
an index, they eliminate the need for and thus many costs of the research entailed in
active management, and have a lower churn rate (the turnover of securities which lose fund
managers' favor and are sold, with the attendant cost of commissions and capital gains
taxes).
- Indices are also a common basis for a related type of investment, the exchange-traded
fund or ETF. Unlike an index fund, which is priced daily, an ETF is priced continuously,
is optionable, and can be sold short.

Ethical stock market indices

- A notable specialized index type is those for ethical investing indices that include only
those companies satisfying ecological or social criteria, e.g. those of The Calvert
Group, KLD, FTSE4Good Index, Dow Jones Sustainability Index, STOXX Global ESG
Leaders Index, Standard Ethics Italian Index and Wilderhill Clean Energy Index.[14]
 - In 2010, the OIC announced the initiation of a stock index that complies with Islamic law's
ban on alcohol, tobacco and gambling. Other such equities, such as the Dow Jones Islamic
Market World Index, already exist.[15]
- Another important trend is strict mechanical criteria for inclusion and exclusion to prevent
market manipulation, e.g. in Canada when Nortel was permitted to rise to over 30% of
the TSE 300 index value. Ethical indices have a particular interest in mechanical criteria,
seeking to avoid accusations of ideological bias in selection, and have pioneered techniques
for inclusion and exclusion of stocks based on complex criteria. Another means of
mechanical selection is mark-to-future methods that exploit scenarios produced by
multiple analysts weighted according to probability, to determine which stocks have
become too risky to hold in the index of concern.

HOW IT WORKS (EXAMPLE):

- There are many types of market indices used to compare stocks, bonds and
other investment securities.
- A stock index measures the value of a hypothetical portfolio of stocks. Surprisingly, the
easy part of composing an index is choosing which stocks to include.
- For instance, the Dow Jones Industrial Average consists of 30 bellwether American
companies in different sectors. There can not be a significant shift in any industry
that will not affect the Dow. With that said, the hard part of making an index is choosing
the relative weight of each company.
- An popular bond index is the Barclays Capital U.S. Aggregate Bond Index, which can be
used as a benchmark to compare treasury bills, corporate bonds, government bonds and
foreign bonds.
- Different methods are used to calculate a market index's value, such as price-weighting,
market-value-weighting and capitalization-weighting, that each have their own set of pros
and cons. A variety of these methods are prevalent today, and the mathematical intricacies
of each ultimately determine their true usefulness.

LESSON 33:
THEORY OF EFFICIENT MARKETS
- The efficient market hypothesis (EMH) is an investment theory that states it is impossible
to "beat the market" because stock market efficiency causes existing share prices to always
incorporate and reflect all relevant information. According to the EMH, stocks always
trade at their fair value on stock exchanges, making it impossible for investors to either
purchase undervalued stocks or sell stocks for inflated prices. As such, it should be
impossible to outperform the overall market through expert stock selection or market
timing, and the only way an investor can possibly obtain higher returns is by purchasing
riskier investments.
- The efficient-market hypothesis (EMH) is a theory in financial economics that states that
an asset's prices fully reflect all available information. A direct implication is that it is
impossible to "beat the market" consistently on a risk-adjusted basis since market prices
should only react to new information or changes in discount rates (the latter may be
predictable or unpredictable).
- The EMH was developed by Professor Eugene Fama who argued that stocks always trade
at their fair value, making it impossible for investors to either purchase undervalued stocks
or sell stocks for inflated prices. As such, it should be impossible to outperform the overall
market through expert stock selection or market timing, and that the only way an investor
can possibly obtain higher returns is by chance or by purchasing riskier investments.[1] His
2012 study with Kenneth French confirmed this view, showing that the distribution of
abnormal returns of US mutual funds is very similar to what would be expected if no fund
managers had any skilla necessary condition for the EMH to hold.[2]
- There are three variants of the hypothesis: "weak", "semi-strong", and "strong" form. The
weak form of the EMH claims that prices on traded assets (e.g., stocks, bonds, or property)
already reflect all past publicly available information. The semi-strong form of the EMH
claims both that prices reflect all publicly available information and that prices instantly
change to reflect new public information. The strong form of the EMH additionally claims
that prices instantly reflect even hidden "insider" information.
- Critics have blamed the belief in rational markets for much of the late-2000s financial
crisis.[3][4][5] In response, proponents of the hypothesis have stated that market efficiency
does not mean not having any uncertainty about the future, that market efficiency is a
simplification of the world which may not always hold true, and that the market is
practically efficient for investment purposes for most individuals.

Theoretical background

- Beyond the normal utility maximizing agents, the efficient-market hypothesis requires that
agents have rational expectations; that on average the population is correct (even if no one
person is) and whenever new relevant information appears, the agents update their
expectations appropriately. Note that it is not required that the agents be rational. EMH
allows that when faced with new information, some investors may overreact and some may
underreact. All that is required by the EMH is that investors' reactions be random and
follow a normal distribution pattern so that the net effect on market prices cannot be
reliably exploited to make an abnormal profit, especially when considering transaction
costs (including commissions and spreads). Thus, any one person can be wrong about the
marketindeed, everyone can bebut the market as a whole is always right. There are
three common forms in which the efficient-market hypothesis is commonly statedweak-
form efficiency, semi-strong-form efficiency and strong-form efficiency, each of which
has different implications for how markets work.
Weak-form efficiency
- In weak-form efficiency, future prices cannot be predicted by analyzing prices from the
past. Excess returns cannot be earned in the long run by using investment strategies based
on historical share prices or other historical data. Technical analysis techniques will not be
able to consistently produce excess returns, though some forms of fundamental
analysis may still provide excess returns. Share prices exhibit no serial dependencies,
meaning that there are no "patterns" to asset prices. This implies that future price
movements are determined entirely by information not contained in the price series. Hence,
prices must follow a random walk. This 'soft' EMH does not require that prices remain at
or near equilibrium, but only that market participants not be able to systematically profit
 from market 'inefficiencies'. However, while EMH predicts that all price movement (in the
absence of change in fundamental information) is random (i.e., non-trending), many studies
have shown a marked tendency for the stock markets to trend over time periods of weeks
or longer[21] and that, moreover, there is a positive correlation between degree of trending
and length of time period studied (but note that over long time periods, the trending
is sinusoidal in appearance).[22] Various explanations for such large and apparently non-
random price movements have been promulgated.
Semi-strong-form efficiency
- In semi-strong-form efficiency, it is implied that share prices adjust to publicly available
new information very rapidly and in an unbiased fashion, such that no excess returns can
be earned by trading on that information. Semi-strong-form efficiency implies that
neither fundamental analysis nor technical analysis techniques will be able to reliably
produce excess returns. To test for semi-strong-form efficiency, the adjustments to
previously unknown news must be of a reasonable size and must be instantaneous. To test
for this, consistent upward or downward adjustments after the initial change must be looked
for. If there are any such adjustments, it would suggest that investors had interpreted the
information in a biased fashion and hence in an inefficient manner.
Strong-form efficiency
- In strong-form efficiency, share prices reflect all information, public and private, and no
one can earn excess returns. If there are legal barriers to private information becoming
public, as with insider trading laws, strong-form efficiency is impossible, except in the case
where the laws are universally ignored. To test for strong-form efficiency, a market needs
to exist where investors cannot consistently earn excess returns over a long period of time.
Even if some money managers are consistently observed to beat the market, no refutation
even of strong-form efficiency follows: with hundreds of thousands of fund managers
worldwide, even a normal distribution of returns (as efficiency predicts) should be expected
to produce a few dozen "star" performers.

LESSON 34:
BUSINESS AND CONSUMER LOANS
Consumer Loans
Consumer Loans are loans where the money will be used for personal or family use. Bill
consolidations, home improvements, home purchases, education expenses, estate
settlements and vehicle purchases are all examples of Consumer Loans.
The requirements for a Consumer Loan are determined by the type of real estate being
used as the collateral.
Primary Residence, Vacation Home or Rental Property
o Strong Equity in the Property
o Proof of Ability to Repay
Vacant Land or Commercial Building
o Strong Equity in the Property
o Proof of Income Not Required
Generally, we require a first lien against the property being used as the security for the
loan. If you already have a mortgage or equity loan against the property, we can pay it off
 and roll it over into the new loan. If the equity in your property is very strong, we will
sometimes consider a 2nd lien.
The loan process includes taking an application by telephone, doing a title search, and
making an inspection of your property. Sometimes, title insurance will be required, other
times not, depending on your situation. At present, there is no charge for the property
inspection, which is conducted by a member of Fairway's staff.
If Proof of Ability to Repay is required for your loan, you will be asked to provide us
with your Proof of Income and a Personal Financial Statement showing all of your
outstanding debts and the assets you wish us to consider when evaluating your loan
application.
Proof of Income most often means your 2 most recent pay stubs and your previous year
W2. For the self-employed, your 3 most recent years of tax returns are generally required.
Every situation is different. How best to prove your income is something you will discuss
with your loan originator.
Your Personal Financial Statement is a statement, signed by you, listing all your debts,
including all mortgages, personal loans, car loans, credit cards, students loans, alimony
payments and child support payments you make each month. For each item listed, you
are required to provide us with the most recent statement evidencing the debt. We do not
pull your credit report. You are responsible for providing us with the list of your debts.
It must be noted that it is a federal felony offense, punishable by up to 30 years in prison
and a $1,000,000.00 fine to fraudulently misrepresent your debts.

Business Purpose Loans

If you are borrowing money for a verifiable business purpose, then the only requirement
is that you have sufficient equity in a property to adequately secure the loan.
The property can be a primary residence, a second home, a rental property, vacant land or
a commercial property. As long as the money will be used for a verifiable business
purpose, you do not need to prove your income.
Purchasing or making repairs to a rental property, buying business equipment, paying
business debts, and loans to increase working capital are all examples of business purpose
loans.

LESSON 35
SOLVING PROBLEMS ON BUSINESS AND CONSUMER LOANS
(a) Definition of terms
Amortization Method - method of paying a loan (principal and interest) on installment
basis, usually of equal amounts at regular intervals
Mortgage - a loan, secured by a collateral, that the borrower is obliged to pay at specified
terms.
Chattel Mortgage - a mortgage on a movable property
Collateral - assets used to secure the loan. It may be a real-estate or other investments
Outstanding Balance - any remaining debt at a specified time
(b) Discuss the basics of a mortgage loan to the students.
A mortgage is a business loan or a consumer loan that is secured with a collateral. Collaterals are
assets that can secure a loan. If a borrower cannot pay the loan, the lender has a right to the
collateral. The most common collaterals are real estate property. For business loans, equipment,
furniture and vehicles may also be used as collaterals. Usually, the loan is secured by the property
bought. For example, if a house and lot is purchased, the purchased house and lot will be used as
a mortgaged property or a collateral. During the term of the loan, the mortgagor, the borrower in
a mortgage, still has the right to possess and use the mortgaged property. In the event that the
mortgagor does not make regular payments on the mortgage, the mortgagee or the lender in a
mortgage can repossess the mortgaged property. The most common type of mortgage is the fixed-
rate mortgage wherein the interest remains constant throughout the term of the loan.
(c) Solve problems involving business or consumer loans
EXAMPLE:
1. Mr. Garcia borrowed P1,000,000 for the expansion of his business. The effective rate of interest
is 7%.
The loan is to be repaid in full after one year. How much is to be paid after one year?

An amount of P1,070,000 must be paid after one year

EXAMPLE:
2. (Chattel mortgage). A person borrowed P1,200,000 for the purchase of a car. If his monthly
payment is
P31,000 on a 5-year mortgage, find the total amount of interest.
Solution.

EXAMPLE:
3. If a house is sold for P3,000,000 and the bank requires 20% down payment, find the amount of
the
mortgage.

The mortgage amount is P2,400,000.

EXAMPLE:
4. Ms Rosal bought a car. After paying the down payment, the amount of the loan is P400,000
with an interest rate of 9% compounded monthly. The term of the loan is 3 years. How much is
the monthly payment?
Solution.

The regular payment is P12,719.89.

(d) Discuss the outstanding balance of a loan.
Outstanding Balance
Recall that the outstanding balance of a loan is the amount of the loan at this time. One method to
compute the outstanding balance is to get the present value of all remaining payments. This method
is called the prospective method.
Time Diagram:

EXAMPLE:
5. Mrs. Se borrowed some money from a bank that offers an interest rate of 12% compounded
monthly. His monthly amortization for 5 years is P11,122.22. How much is the outstanding
balance after the 12th payment?
Solution.

The outstanding balance is P422,354.73.

e) Discuss the basics of loan amortization (compute the interest and principal components of
a loan.)
EXAMPLE:
6. Mr. and Mrs. Banal purchased a house and lot worth P4,000,000. They paid a down payment
of P800,000. They plan to amortize the loan of P3,200,000 by paying monthly for 20 years. The
interest rate is 12% convertible monthly.
a. How much is the monthly payment?
b. What is the total interest paid?
c. What are the principal and interest components of the 51st payment?
Solution.
There are 240 payments of P35,234.76. The total payment is 240 P35, 234.76 = P8, 456, 342.40.
The principal is only P3,200,000.
Interest Amount = (Total Payments)? (Principal)
= 8, 456, 342.40? 3, 200, 000 = 5, 256, 342.40
The interest amount is P5,256,342.40
Note:
Students may be surprised to learn that much of what is being paid is for the interest. This is
particularly true if a loan is being paid over a long period of time.
Find: principal and interest components of the 51st payment. The 51st payment of P35,234.76 is
partly used to pay for the principal, and partly to pay for the interest.
Step 1: Get the outstanding balance after the 50th payment (the balance after the 50th payment is
what the 51st payment will be for). Since 50 payments have been paid already, there will be 190
remaining payments.
The outstanding balance after the 50th payment is:

Step 2: After the 50th payment, the outstanding balance is P2,991,477.63.

Since the interest rate per period is j = 0.01, then the remaining balance of P2,991,477.63 will be
charged an interest of The 51st payment of P35,234.76 will be used to pay for this interest. Thus,
the interest component of the 51st payment is P29,914.78.

Thus, for the 51st payment, the part that goes to pay the interest is P29,914.78 and the part that
goes to pay the principal is P5,319.98.
(f) Problem-based Approach and Collaborative Learning
Group the students into 5. Interview a real estate agent, vehicle dealer or someone who sells by
installment. Get a sample of the quotation for what they are selling. Make sure the following details
will be reported to class:
i. Cash Value of the property
ii. Down payment
iii. Mortgaged Amount
iv. Term of the Loan
v. Monthly Payment
vi. Total Interest

LESSON 36:
PROPOSITIONS
- A proposition is a declaration that can be either true or false, but not both. For example,
Today is Friday is a proposition. This statement can be true or false, but not both. It is
common to define a shorthand notation for propositions: Let P be the proposition Today
is Friday. If the statement is true, then P has truth value true. If it is false, then P has truth
value false. It is also common notation to use a place filler in a proposition. For example
let P(x) be x is a an odd number. Then P(x) is a proposition depending on x.

Sample problems:
Determine which of the following are propositions.
1. x = 5.
2. The grey dog.
3. The dog is brown.
4. The real numbers.

Of course the propositions that we have been using here arent sufficiently complicated to
develop meaningful mathematical ideas. So we must describe interactions with propositions.
Naturally, we define an operation called negation. This idea is exactly what you would expect it
to be. For example, let P denote Today is Friday. Then the negation of P, written P, is Today
is not Friday. Notice that P and P cannot both have the same truth value. This is called the law of
non-contradiction.

Sample problems:
Find the negation of each of the previous sample problems determined to be propositions.

Next we define two operations on propositions. Again these operations are intuitive based on
every day vernacular. The operations are and, denoted ^, and or, denoted _. In order for
the proposition P^Q to be true, both P and Q must be true. In order for P_Q to be true either P must
be true or Q must be true, not necessarily both. For example, let P be x < 4 and Q be x > 2.
Then P^Q is the proposition x < 4 and x > 2. And P_Q is the proposition x < 4 or x > 2.
Sample problems:
Write the following in words based on the propositions: Let P be I have a sister, Q be I
have a brother, and N be I have a cousin.

1. P^Q^N
2. P^Q
3. P_Q
4. (P_Q)^N

Implication
Implication or logical implication is another relationship between two propostions. Implication
is basically the idea of an if, then statement. For example, let P be Today is Saturday and Q be
It is the weekend. Then the implication, P implies Q, written P ) Q, means If it is Saturday,
then it is the weekend. Then we can determine that P)Q is true. Note that Q)P, called the converse,
is false.

Sample problems:
Write the following in words based on the propositions: Let P be x = 1
and Q be x2 = 1. Then determine which are true.
1. P)Q
2. Q)P
It is also possible for P)Q and Q)P to both be true. So when P)Q and Q)P, we write P,Q and say
P if and only if Q. When this condition is true, we also say that P and Q are equivalent.
Implication can be written in terms of the previously defined operations. The symbolic definition
of implication is: P)Q = P_Q. Then it can be seen that P)Q = P_Q = Q_P = Q)P. So P)Q
and Q)P are equivalent or (P)Q),(Q)P). This equivalent statement is called the
contrapositive.

Sample Problems:
Write the contrapositive in words of the implications in the previous
sample problems.

Quantifiers
The previous sections have made it possible to write a lot of different propositions, but we
are still not able to write all of the statements that we will want. Quantifiers allow us to specify the
scope of the propositions that we can write. There are two quantifiers that we will be concerned
with. The first is called the universal quantifier, written 8. This quantifiers is used to define the
scope of a proposition. For example, the proposition All people are good can be written
symbolically using the universal quantifier. Let P(x) be the statement x is good. Then the
previous proposition can be written as 8 x is a person, P(x). The other quantifier that we
introduce is the existential quantifier, written 9. This quantifier is also used to define the scope of
a proposition. For example the proposition There exist good people can be written symbolically
9 a person x such that P(x). It is often useful to use these two together to write propositions. For
 example the proposition For any real number x, there is a real number that is greater than x can
be written symbolically as: 8 real number x, 9 a real number y such that y > x.

Sample problems:
Define propositions and use quantifiers to write the following symbolically.
1. The square of every real number is non-negative.
2. The square root of any positive number is a real number.
3. Every real number has an additive inverse.
4. Every non-constant linear function has a zero.

LESSON 37:
LOGICAL OPERATORS
- Logical operators are typically used with Boolean (logical) values. When they are, they
return a Boolean value. However, the && and || operators actually return the value of one
of the specified operands, so if these operators are used with non-Boolean values, they may
return a non-Boolean value.
- The logical operators are described in the following table:

Operator Usage Description

Logical AND expr1&& expr2 Returns expr1 if it can be converted to false; otherwise,
(&&) returns expr2. Thus, when used with Boolean
values, && returns true if both operands are true;
otherwise, returns false.

Logical OR expr1|| expr2 Returns expr1 if it can be converted to true; otherwise,

(||) returns expr2. Thus, when used with Boolean
values, || returns true if either operand is true.

Logical NOT !expr Returns false if its single operand can be converted
(!) to true; otherwise, returns true.

If a value can be converted to true, the value is so-called truthy. If a value can be converted
to false, the value is so-called falsy.
Examples of expressions that can be converted to false are:
null;
NaN;
0;
empty string ("");
undefined.
 Even though the && and || operators can be used with operands that are not Boolean values, they
can still be considered Boolean operators since their return values can always be converted to
Boolean values.

Short-circuit evaluation
As logical expressions are evaluated left to right, they are tested for possible "short-circuit"
evaluation using the following rules:

false && (anything) is short-circuit evaluated to false.

true || (anything) is short-circuit evaluated to true.
The rules of logic guarantee that these evaluations are always correct. Note that the anything part
of the above expressions is not evaluated, so any side effects of doing so do not take effect. Also
note that the anything part of the above expression is any single logical expression (as indicated
by the parentheses).

For example, the following two functions are equivalent.

function shortCircuitEvaluation() {
// logical OR (||)
doSomething() || doSomethingElse();

// logical AND (&&)

doSomething() && doSomethingElse();
}

function equivalentEvaluation() {

// logical OR (||)
var orFlag = doSomething();
if (!orFlag) {
doSomethingElse();
}

// logical AND (&&)

var andFlag = doSomething();
if (andFlag) {
doSomethingElse();
}
}
However, the following expressions are not equivalent due to operator precedence, and stresses
the importance of requiring the right hand operand to be a single expression (grouped if needed by
parentheses).
false && true || true // returns true
false && (true || true) // returns false
Logical AND (&&)
The following code shows examples of the && (logical AND) operator.
a1 = true && true // t && t returns true
a2 = true && false // t && f returns false
a3 = false && true // f && t returns false
a4 = false && (3 == 4) // f && f returns false
a5 = 'Cat' && 'Dog' // t && t returns "Dog"
a6 = false && 'Cat' // f && t returns false
a7 = 'Cat' && false // t && f returns false
a8 = '' && false // f && f returns ""
a9 = false && '' // f && f returns false
Logical OR (||)
The following code shows examples of the || (logical OR) operator.
o1 = true || true // t || t returns true
o2 = false || true // f || t returns true
o3 = true || false // t || f returns true
o4 = false || (3 == 4) // f || f returns false
o5 = 'Cat' || 'Dog' // t || t returns "Cat"
o6 = false || 'Cat' // f || t returns "Cat"
o7 = 'Cat' || false // t || f returns "Cat"
o8 = '' || false // f || f returns false
o9 = false || '' // f || f returns ""
Logical NOT (!)
The following code shows examples of the ! (logical NOT) operator.
n1 = !true // !t returns false
n2 = !false // !f returns true
n3 = !'Cat' // !t returns false
Conversion rules

Converting AND to OR

the following operation involving Booleans:

bCondition1 && bCondition2
is always equal to:
!(!bCondition1 || !bCondition2)
Converting OR to AND

the following operation involving Booleans:

bCondition1 || bCondition2
is always equal to:
!(!bCondition1 && !bCondition2)

Converting between NOTs

the following operation involving Booleans:

!!bCondition
is always equal to:
bCondition

Removing nested parentheses

As logical expressions are evaluated left to right, it is always possible to remove parentheses
from a complex expression following some rules.

Removing nested AND

The following composite operation involving Booleans:

bCondition1 || (bCondition2 && bCondition3)

is always equal to:
bCondition1 || bCondition2 && bCondition3

Removing nested OR

The following composite operation involving Booleans:

bCondition1 && (bCondition2 || bCondition3)
is always equal to:
!(!bCondition1 || !bCondition2 && !bCondition3)

EXAMPLES:

1. Logical operators illustrated

<?php

// --------------------
// foo() will never get called as those operators are short-circuit

$a = (false && foo());

$b = (true || foo());
$c = (false and foo());
$d = (true or foo());

// --------------------
// "||" has a greater precedence than "or"

// The result of the expression (false || true) is assigned to $e

// Acts like: ($e = (false || true))
$e = false || true;

// The constant false is assigned to $f before the "or" operation occurs

// Acts like: (($f = false) or true)
$f = false or true;

var_dump($e, $f);

// --------------------
// "&&" has a greater precedence than "and"

// The result of the expression (true && false) is assigned to $g

// Acts like: ($g = (true && false))
$g = true && false;

// The constant true is assigned to $h before the "and" operation occurs

// Acts like: (($h = true) and false)
$h = true and false;

var_dump($g, $h);
?>

2. The logical operators for AND (&&) and OR (||) are used to combine simple relational statements
into more complex expressions. The NOT (!) operator is used to negate a boolean statement.

size(640, 360);
background(126);

boolean test = false;

for (int i = 5; i <= height; i += 5) {

// Logical AND
stroke(0);
if((i > 35) && (i < 100)) {
line(width/4, i, width/2, i);
test = false;
}

// Logical OR
stroke(76);
if ((i <= 35) || (i >= 100)) {
 line(width/2, i, width, i);
test = true;
}

// Testing if a boolean value is "true"

// The expression "if(test)" is equivalent to "if(test == true)"
if (test) {
stroke(0);
point(width/3, i);
}

// Testing if a boolean value is "false"

// The expression "if(!test)" is equivalent to "if(test == false)"
if (!test) {
stroke(255);
point(width/4, i);
}
}

3. Logical operators available in C

#include <stdio.h>

main() {

int a = 5;
int b = 20;
int c ;

if ( a && b ) {
printf("Line 1 - Condition is true\n" );
}

if ( a || b ) {
printf("Line 2 - Condition is true\n" );
}

/* lets change the value of a and b */

a = 0;
b = 10;

if ( a && b ) {
printf("Line 3 - Condition is true\n" );
}
else {
printf("Line 3 - Condition is not true\n" );
}

if ( !(a && b) ) {
printf("Line 4 - Condition is true\n" );
}

}
LESSON 38:
TRUTH TABLES
- A truth table is a mathematical table used in logicspecifically in connection
with Boolean algebra, boolean functions, and propositional calculuswhich sets out the
functional values of logical expressions on each of their functional arguments, that is, for
each combination of values taken by their logical variables (Enderton, 2001). In particular,
truth tables can be used to show whether a propositional expression is true for all legitimate
input values, that is, logically valid.
- A truth table has one column for each input variable (for example, P and Q), and one final
column showing all of the possible results of the logical operation that the table represents
(for example, P XOR Q). Each row of the truth table contains one possible configuration
of the input variables (for instance, P=true Q=false), and the result of the operation for
those values. See the examples below for further clarification. Ludwig Wittgenstein is
often credited with inventing the truth table in his Tractatus Logico-Philosophicus though
it appeared at least a year earlier in a paper on propositional logic by Emil Leon Post.
Example 1:

The art show was enjoyable but the room was hot.

Step 1: Use a variable to represent each basic statement.

P: The art show was enjoyable.
Q: The room was hot.
Step 2: Write the compound statement in symbolic form.
P ^ Q

Notice that even though the original sentence had the word "but" instead of "and" the
meaning is the same.

Step 3: Determine the order in which the logic operations are to be performed.

In this case, only one logic operation is being performed.

Step 4: Set up the truth table.

Since there are two variables, there are four rows in the table (two raised to the power
of two). There are three columns; two for the variables and one for the conjunction.
Step 5: Complete the table from left to right.

There is only one column to complete. The exceptional case for conjunction has been
highlighted.

Example 2:

If the tire is flat then I will have to remove it and take it to the gas station.

Step 1: Use a variable to represent each basic statement.

P: The tire is flat.
Q: I have to remove the tire.
R: I have to take the tire to the gas station.
Step 2: Write the compound statement in symbolic form.
P -> (Q ^ R)

The parentheses are included for the sake of clarity. They are not needed here since
conjunction has a higher precedence than the conditional.

Step 3: Determine the order in which the logic operations are to be performed.

There are two logical operations in this expression. Conjunction has a higher
precedence than the conditional so the operations will be performed in this order:
And: Q ^ R
Conditional: P -> (Q ^ R)

Step 4: Set up the truth table.

Since there are three variables, the table will have eight rows (two to the power of three).
There are five columns: three for the variables, one for the "and" operation and one for
the conditional.
Step 5: Complete the table from left to right.

First, complete the column for the conjunction of Q and R. The exceptional case for the
conjunction has been highlighted.

The values found in the first and fourth columns are used to determine the correct values
in the last column. Again, the exceptional cases (for the conditional, this time) have
been highlighted.

Example 3:

If the boss doesn't like me or thinks I am lazy then she will not give me a raise and I
will have to find another apartment.

Step 1: Use a variable to represent each basic statement.

A: The boss likes me.
B: The boss thinks I am lazy.
C: The boss will give me a raise.
D: I will have to find another apartment.

Notice that statements A and C are worded as positive statements. Remember that
basic statements, as a rule, don't use the word "not".

Step 2: Write the compound statement in symbolic form.

(~A v B) -> (~C ^ D)
Step 3: Determine the order in which the logic operations are to be performed.

There are five logical operators used in this statement. The leftmost parenthetical
expression (~A v B) will be evaluated first. Within this expression, negation has a
higher precedence than disjunction. In the second parenthetical expression the negation
operation will be performed first and then the conjunction. Finally, the conditional will
be applied to the results. Here is the order in which the logic operations will be
performed:
Not: ~A
Or: ~A v B
Not: ~C
And: ~C ^ D
Conditional: (~A v B) -> (~C ^ D)

Step 4: Set up the truth table.

This truth table will have sixteen rows since there are four variables (two raised to the
fourth power is sixteen). There will be nine columns: four for the variables, and one for
each logical operation arranged left to right in the order of precedence.
Step 5: Complete the table from left to right.

The first operation is the negation of A.

The next operation is the logical Or applied to ~A and B.

The values in the ~C column are simply the opposite of the corresponding values in
the C column.
The fourth operation is a conjunction (~C ^ D). The rows in which the exceptional case
applies have been highlighted.

Finally, the truth values of the conditional are determined using the ~A v B column and
the ~C ^ D column. Remember that the exceptional case for the conditional is False
when the premise is True but the conclusion is False.
 EXERCISES:
Truth tables offer a simple and easy to understand tool that can be used to determine
the output of any logic gate or circuit for all input combinations.
EO 1.3 DEVELOP the truth tables for the following logic gates:
a. AND gate d. NAND gate
b. OR gate e. NOR gate
c. NOT gate f. EXCLUSIVE OR gate

EO 1.4 IDENTIFY the symbols used to denote a logical 1 (or high)and a logical 0 (or low)
as used in logic diagrams.
EO 1.5 Given a logic diagram and appropriate information, DETERMINE the
output of each component and the logic circuit.