Ch.

6 - The Time Value of

Money

Μd. Sogir Hossain Khandoker

Wednesday,
1
July 12, 2023
 The Time Value of Money

Compounding and
Discounting Single Sums

Wednesday,
2
July 12, 2023
We know that receiving $1 today is worth
more than $1 in the future. This is due
to opportunity costs.
The opportunity cost of receiving $1 in
the future is the interest we could have
earned if we had received the $1 sooner.
Today Future

Wednesday,
3
July 12, 2023
 If we can measure this opportunity
cost, we can:

Wednesday,
4
July 12, 2023
 If we can measure this opportunity
cost, we can:
● Translate $1 today into its equivalent in the future
(compounding).

Wednesday,
5
July 12, 2023
 If we can measure this opportunity
cost, we can:
● Translate $1 today into its equivalent in the future
(compounding).
Today Future

Wednesday,
6
July 12, 2023
 If we can measure this opportunity
cost, we can:
● Translate $1 today into its equivalent in the future
(compounding).
Today Future

?
● Translate $1 in the future into its equivalent today
(discounting).

Wednesday,
7
July 12, 2023
 If we can measure this opportunity
cost, we can:
● Translate $1 today into its equivalent in the future
(compounding).
Today Future

?
● Translate $1 in the future into its equivalent today
(discounting).
Today Future

?
Wednesday,
July 12, 2023
8
 Future Value

Wednesday,
9
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 1 year?

Wednesday,
10
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 1 year?

PV = FV =

0 1

Wednesday,
11
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 1 year?

PV = -100 FV =

0 1

Calculator Solution:
P/Y = 1 I=6
N=1 PV = -100
FV = $106
Wednesday,
12
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 1 year?

PV = -100 FV = 106

0 1

Calculator Solution:
P/Y = 1 I=6
N=1 PV = -100
FV = $106
Wednesday,
13
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 1 year?

PV = -100 FV = 106

0 1
Mathematical Solution:
FV = PV (FVIF i, n )
FV = 100 (FVIF .06, 1 ) (use FVIF table, or)
FV = PV (1 + i)n
= 100 (1.06)1 = $106
FVWednesday,
14
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 5 years?

Wednesday,
15
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 5 years?

PV = FV =

0 5

Wednesday,
16
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 5 years?

PV = -100 FV =

0 5

Calculator Solution:
P/Y = 1 I=6
N=5 PV = -100
FV = $133.82
Wednesday,
17
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 5 years?

PV = -100 FV = 133.82

0 5

Calculator Solution:
P/Y = 1 I=6
N=5 PV = -100
FV = $133.82
Wednesday,
18
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6%, how
much would you have in the account after 5 years?

PV = -100 FV = 133.82

0 5
Mathematical Solution:
FV = PV (FVIF i, n )
FV = 100 (FVIF .06, 5 ) (use FVIF table, or)
FV = PV (1 + i)n
= 100 (1.06)5 = $133.82
FVWednesday, 19
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
quarterly compounding, how much would you have
in the account after 5 years?

Wednesday,
20
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
quarterly compounding, how much would you have
in the account after 5 years?

PV = FV =

0 ?

Wednesday,
21
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
quarterly compounding, how much would you have
in the account after 5 years?

PV = -100 FV =

0 20

Calculator Solution:
P/Y = 4 I=6
N = 20 PV = -100
FV = $134.68
Wednesday,
22
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
quarterly compounding, how much would you have
in the account after 5 years?

PV = -100 FV = 134.68

0 20

Calculator Solution:
P/Y = 4 I=6
N = 20 PV = -100
FV = $134.68
Wednesday,
23
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
quarterly compounding, how much would you have
in the account after 5 years?

PV = -100 FV = 134.68

0 20
Mathematical Solution:
FV = PV (FVIF i, n )
FV = 100 (FVIF .015, 20 ) (can’t use FVIF table)
FV = PV (1 + i/m) m x n
= 100 (1.015)20 = $134.68
FVWednesday, 24
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
monthly compounding, how much would you have
in the account after 5 years?

Wednesday,
25
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
monthly compounding, how much would you have
in the account after 5 years?

PV = FV =

0 ?

Wednesday,
26
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
monthly compounding, how much would you have
in the account after 5 years?

PV = -100 FV =

0 60

Calculator Solution:
P/Y = 12 I=6
N = 60 PV = -100
FV = $134.89
Wednesday,
27
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
monthly compounding, how much would you have
in the account after 5 years?

PV = -100 FV = 134.89

0 60

Calculator Solution:
P/Y = 12 I=6
N = 60 PV = -100
FV = $134.89
Wednesday,
28
July 12, 2023
 Future Value - single sums
If you deposit $100 in an account earning 6% with
monthly compounding, how much would you have
in the account after 5 years?

PV = -100 FV = 134.89

0 60
Mathematical Solution:
FV = PV (FVIF i, n )
FV = 100 (FVIF .005, 60 ) (can’t use FVIF table)
FV = PV (1 + i/m) m x n
= 100 (1.005)60 = $134.89
FVWednesday, 29
July 12, 2023
Future Value - continuous compounding
What is the FV of $1,000 earning 8% with
continuous compounding, after 100 years?

Wednesday,
30
July 12, 2023
 Future Value - continuous compounding
What is the FV of $1,000 earning 8% with
continuous compounding, after 100 years?

PV = FV =

0 ?

Wednesday,
31
July 12, 2023
 Future Value - continuous compounding
What is the FV of $1,000 earning 8% with
continuous compounding, after 100 years?

PV = -1000 FV =

0 100

Mathematical Solution:
in
FV = PV (e )
FV = 1000 (e .08x100) = 1000 (e 8)
FV = $2,980,957.99
Wednesday,
32
July 12, 2023
 Future Value - continuous compounding
What is the FV of $1,000 earning 8% with
continuous compounding, after 100 years?

PV = -1000 FV = $2.98m

0 100

Mathematical Solution:
in
FV = PV (e )
FV = 1000 (e .08x100) = 1000 (e 8)
FV = $2,980,957.99
Wednesday,
33
July 12, 2023
 Present Value

Wednesday,
34
July 12, 2023
 Present Value - single sums
If you receive $100 one year from now, what is the
PV of that $100 if your opportunity cost is 6%?

Wednesday,
35
July 12, 2023
 Present Value - single sums
If you receive $100 one year from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = FV =

0 ?

Wednesday,
36
July 12, 2023
 Present Value - single sums
If you receive $100 one year from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = FV = 100

0 1

Calculator Solution:
P/Y = 1 I=6
N=1 FV = 100
PV = -94.34
Wednesday,
37
July 12, 2023
 Present Value - single sums
If you receive $100 one year from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = -94.34 FV = 100

0 1

Calculator Solution:
P/Y = 1 I=6
N=1 FV = 100
PV = -94.34
Wednesday,
38
July 12, 2023
 Present Value - single sums
If you receive $100 one year from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = -94.34 FV = 100

0 1
Mathematical Solution:
PV = FV (PVIF i, n )
PV = 100 (PVIF .06, 1 ) (use PVIF table, or)
PV = FV / (1 + i)n
= 100 / (1.06)1 = $94.34
PVWednesday, 39
July 12, 2023
 Present Value - single sums
If you receive $100 five years from now, what is the
PV of that $100 if your opportunity cost is 6%?

Wednesday,
40
July 12, 2023
 Present Value - single sums
If you receive $100 five years from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = FV =

0 ?

Wednesday,
41
July 12, 2023
 Present Value - single sums
If you receive $100 five years from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = FV = 100

0 5

Calculator Solution:
P/Y = 1 I=6
N=5 FV = 100
PV = -74.73
Wednesday,
42
July 12, 2023
 Present Value - single sums
If you receive $100 five years from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = -74.73 FV = 100

0 5

Calculator Solution:
P/Y = 1 I=6
N=5 FV = 100
PV = -74.73
Wednesday,
43
July 12, 2023
 Present Value - single sums
If you receive $100 five years from now, what is the
PV of that $100 if your opportunity cost is 6%?

PV = -74.73 FV = 100

0 5
Mathematical Solution:
PV = FV (PVIF i, n )
PV = 100 (PVIF .06, 5 ) (use PVIF table, or)
PV = FV / (1 + i)n
= 100 / (1.06)5 = $74.73
PVWednesday, 44
July 12, 2023
 Present Value - single sums
What is the PV of $1,000 to be received 15 years
from now if your opportunity cost is 7%?

Wednesday,
45
July 12, 2023
 Present Value - single sums
What is the PV of $1,000 to be received 15 years
from now if your opportunity cost is 7%?

PV = FV =

0 15

Wednesday,
46
July 12, 2023
 Present Value - single sums
What is the PV of $1,000 to be received 15 years
from now if your opportunity cost is 7%?

PV = FV = 1000

0 15

Calculator Solution:
P/Y = 1 I=7
N = 15 FV = 1,000
PV = -362.45
Wednesday,
47
July 12, 2023
 Present Value - single sums
What is the PV of $1,000 to be received 15 years
from now if your opportunity cost is 7%?

PV = -362.45 FV = 1000

0 15

Calculator Solution:
P/Y = 1 I=7
N = 15 FV = 1,000
PV = -362.45
Wednesday,
48
July 12, 2023
 Present Value - single sums
What is the PV of $1,000 to be received 15 years
from now if your opportunity cost is 7%?

PV = -362.45 FV = 1000

0 15
Mathematical Solution:
PV = FV (PVIF i, n )
PV = 100 (PVIF .07, 15 ) (use PVIF table, or)
PV = FV / (1 + i)n
= 100 / (1.07)15 = $362.45
PVWednesday, 49
July 12, 2023
 Present Value - single sums
If you sold land for $11,933 that you bought 5 years
ago for $5,000, what is your annual rate of return?

Wednesday,
50
July 12, 2023
 Present Value - single sums
If you sold land for $11,933 that you bought 5 years
ago for $5,000, what is your annual rate of return?

PV = FV =

0 5

Wednesday,
51
July 12, 2023
 Present Value - single sums
If you sold land for $11,933 that you bought 5 years
ago for $5,000, what is your annual rate of return?

PV = -5000 FV = 11,933

0 5

Calculator Solution:
P/Y = 1 N=5
PV = -5,000 FV = 11,933
IWednesday,
= 19% 52
July 12, 2023
 Present Value - single sums
If you sold land for $11,933 that you bought 5 years
ago for $5,000, what is your annual rate of return?
Mathematical Solution:
PV = FV (PVIF i, n )
5,000 = 11,933 (PVIF ?, 5 )
PV = FV / (1 + i)n
5,000 = 11,933 / (1+ i)5
.419 = ((1/ (1+i)5)
2.3866 = (1+i)5
1/5
(2.3866)
Wednesday,
= (1+i) i = .19
53
July 12, 2023
 Hint for single sum problems:
● In every single sum future value and
present value problem, there are 4
variables:
● FV, PV, i, and n
● When doing problems, you will be
given 3 of these variables and asked to
solve for the 4th variable.
● Keeping this in mind makes “time
value” problems much easier!
Wednesday,
54
July 12, 2023
 The Time Value of Money

Compounding and Discounting

Cash Flow Streams

0 1 2 3 4
Wednesday,
55
July 12, 2023
 Annuities
● Annuity: a sequence of equal cash
flows, occurring at the end of each
period.

Wednesday,
56
July 12, 2023
 Annuities
● Annuity: a sequence of equal cash
flows, occurring at the end of each
period.

0 1 2 3 4
Wednesday,
57
July 12, 2023
 Examples of Annuities:
● If you buy a bond, you will
receive equal semi-annual coupon
interest payments over the life of
the bond.
● If you borrow money to buy a
house or a car, you will pay a
stream of equal payments.

Wednesday,
58
July 12, 2023
 Examples of Annuities:
● If you buy a bond, you will
receive equal semi-annual coupon
interest payments over the life of
the bond.
● If you borrow money to buy a
house or a car, you will pay a
stream of equal payments.

Wednesday,
59
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?

Wednesday,
60
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?

0 1 2 3

Wednesday,
61
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?

1000 1000 1000

0 1 2 3

Calculator Solution:
P/Y = 1 I = 8 N = 3
PMT = -1,000
FV = $3,246.40
Wednesday,
62
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?

1000 1000 1000

0 1 2 3

Calculator Solution:
P/Y = 1 I = 8 N = 3
PMT = -1,000
FV = $3,246.40
Wednesday,
63
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?

Wednesday,
64
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?
Mathematical Solution:

Wednesday,
65
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?
Mathematical Solution:
FV = PMT (FVIFA i, n )

Wednesday,
66
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?
Mathematical Solution:
FV = PMT (FVIFA i, n )
FV = 1,000 (FVIFA .08, 3 ) (use FVIFA table, or)

Wednesday,
67
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?
Mathematical Solution:
FV = PMT (FVIFA i, n )
FV = 1,000 (FVIFA .08, 3 ) (use FVIFA table, or)

FV = PMT (1 + i)n - 1
i

Wednesday,
68
July 12, 2023
 Future Value - annuity
If you invest $1,000 each year at 8%, how much
would you have after 3 years?
Mathematical Solution:
FV = PMT (FVIFA i, n )
FV = 1,000 (FVIFA .08, 3 ) (use FVIFA table, or)

FV = PMT (1 + i)n - 1
i
FV = 1,000 (1.08)3 - 1 = $3246.40
.08
Wednesday,
69
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?

Wednesday,
70
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?

0 1 2 3

Wednesday,
71
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?

1000 1000 1000

0 1 2 3

Calculator Solution:
P/Y = 1 I = 8 N = 3
PMT = -1,000
PV = $2,577.10
Wednesday,
72
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?

1000 1000 1000

0 1 2 3

Calculator Solution:
P/Y = 1 I = 8 N = 3
PMT = -1,000
PV = $2,577.10
Wednesday,
73
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?

Wednesday,
74
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?
Mathematical Solution:

Wednesday,
75
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?
Mathematical Solution:
PV = PMT (PVIFA i, n )

Wednesday,
76
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?
Mathematical Solution:
PV = PMT (PVIFA i, n )
PV = 1,000 (PVIFA .08, 3 ) (use PVIFA table, or)

Wednesday,
77
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?
Mathematical Solution:
PV = PMT (PVIFA i, n )
PV = 1,000 (PVIFA .08, 3 ) (use PVIFA table, or)
1
PV = PMT 1 - (1 + i)n
i

Wednesday,
78
July 12, 2023
 Present Value - annuity
What is the PV of $1,000 at the end of each of the
next 3 years, if the opportunity cost is 8%?
Mathematical Solution:
PV = PMT (PVIFA i, n )
PV = 1,000 (PVIFA .08, 3 ) (use PVIFA table, or)
1
PV = PMT 1 - (1 + i)n
i

1
PV = 1000 1 - (1.08 )3 = $2,577.10
Wednesday,
July 12, 2023
.08 79
 The Time Value of Money

0 1 2 3

Other
Wednesday,
Cash Flow Patterns
80
July 12, 2023
 Perpetuities

● Suppose you will receive a fixed

payment every period (month, year,
etc.) forever. This is an example of a
perpetuity.
● You can think of a perpetuity as an
annuity that goes on forever.

Wednesday,
81
July 12, 2023
 Present Value of a
Perpetuity
● When we find the PV of an annuity,
we think of the following
relationship:

Wednesday,
82
July 12, 2023
 Present Value of a
Perpetuity
● When we find the PV of an annuity,
we think of the following
relationship:

PV = PMT (PVIFA i, n )

Wednesday,
83
July 12, 2023
Mathematically,

Wednesday,
84
July 12, 2023
Mathematically,

(PVIFA i, n ) =

Wednesday,
85
July 12, 2023
Mathematically,
1
n
(PVIFA i, n ) = 1- (1 + i)
i

Wednesday,
86
July 12, 2023
Mathematically,
1
n
(PVIFA i, n ) = 1- (1 + i)
i
We said that a perpetuity is an
annuity where n = infinity. What
happens to this formula when n
gets very, very large?
Wednesday,
87
July 12, 2023
When n gets very large,

Wednesday,
88
July 12, 2023
When n gets very large,

1
n
1- (1 + i)
i

Wednesday,
89
July 12, 2023
When n gets very large,

1 this becomes zero.

n
1- (1 + i)
i

Wednesday,
90
July 12, 2023
When n gets very large,

1 this becomes zero.

n
1- (1 + i)
i

1
So we’re left with PVIFA =
i
Wednesday,
91
July 12, 2023
 Present Value of a Perpetuity

● So, the PV of a perpetuity is very

simple to find:

Wednesday,
92
July 12, 2023
 Present Value of a Perpetuity

● So, the PV of a perpetuity is very

simple to find:

PMT
PV =
i

Wednesday,
93
July 12, 2023
What should you be willing to pay in
order to receive $10,000 annually
forever, if you require 8% per year
on the investment?

Wednesday,
94
July 12, 2023
What should you be willing to pay in
order to receive $10,000 annually
forever, if you require 8% per year
on the investment?

PV = PMT = $10,000
i .08

Wednesday,
95
July 12, 2023
What should you be willing to pay in
order to receive $10,000 annually
forever, if you require 8% per year
on the investment?

PV = PMT = $10,000
i .08

= $125,000
Wednesday,
96
July 12, 2023
 Ordinary Annuity
vs.
Annuity Due

$1000 $1000 $1000

4 5 6 7 8
 Begin Mode vs. End Mode

1000 1000 1000

4 5 6 7 8

Wednesday,
98
July 12, 2023
 Begin Mode vs. End Mode

1000 1000 1000

year year year
4 5 5 6 76 7 8

Wednesday,
99
July 12, 2023
 Begin Mode vs. End Mode

1000 1000 1000

year year year
4 5 5 6 76 7 8

PV
in
END
ModeWednesday,
100
July 12, 2023
 Begin Mode vs. End Mode

1000 1000 1000

year year year
4 5 5 6 76 7 8

PV FV
in in
END END
ModeWednesday, Mode
101
July 12, 2023
 Begin Mode vs. End Mode

1000 1000 1000

year year year

4 5 6 6 7 87 8

Wednesday,
102
July 12, 2023
 Begin Mode vs. End Mode

1000 1000 1000

year year year

4 5 6 6 7 87 8

PV
in
BEGIN
Mode
Wednesday,
103
July 12, 2023
 Begin Mode vs. End Mode

1000 1000 1000

year year year

4 5 6 6 7 87 8

PV FV
in in
BEGIN BEGIN
Mode
Wednesday,
Mode
104
July 12, 2023
 Earlier, we examined this
“ordinary” annuity:

Wednesday,
105
July 12, 2023
 Earlier, we examined this
“ordinary” annuity:
1000 1000 1000

0 1 2 3

Wednesday,
106
July 12, 2023
 Earlier, we examined this
“ordinary” annuity:
1000 1000 1000

0 1 2 3
Using an interest rate of 8%, we
find that:

Wednesday,
107
July 12, 2023
 Earlier, we examined this
“ordinary” annuity:
1000 1000 1000

0 1 2 3
Using an interest rate of 8%, we
find that:
● The Future Value (at 3) is
$3,246.40.

Wednesday,
108
July 12, 2023
Earlier, we examined this
“ordinary” annuity:
1000 1000 1000

0 1 2 3
Using an interest rate of 8%, we
find that:
● The Future Value (at 3) is
$3,246.40.
● The Present Value (at 0) is
Wednesday,
$2,577.10.
July 12, 2023
109
 What about this annuity?

1000 1000 1000

0 1 2 3
● Same 3-year time line,
● Same 3 $1000 cash flows, but
● The cash flows occur at the
beginning of each year, rather
than at the end of each year.
This is an “annuity due.”
●Wednesday,
110
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?

0 1 2 3

Wednesday,
111
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?
-1000 -1000 -1000

0 1 2 3

Calculator Solution:
Mode = BEGIN P/Y = 1 I=8
N=3 PMT = -1,000
FV = $3,506.11
Wednesday,
112
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?
-1000 -1000 -1000

0 1 2 3

Calculator Solution:
Mode = BEGIN P/Y = 1 I=8
N=3 PMT = -1,000
FV = $3,506.11
Wednesday,
113
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:

Wednesday,
114
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
FV = PMT (FVIFA i, n ) (1 + i)

Wednesday,
115
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
FV = PMT (FVIFA i, n ) (1 + i)
FV = 1,000 (FVIFA .08, 3 ) (1.08) (use FVIFA table, or)

Wednesday,
116
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
FV = PMT (FVIFA i, n ) (1 + i)
FV = 1,000 (FVIFA .08, 3 ) (1.08) (use FVIFA table, or)

FV = PMT (1 + i)n - 1
(1 + i)
i

Wednesday,
117
July 12, 2023
 Future Value - annuity due
If you invest $1,000 at the beginning of each of the
next 3 years at 8%, how much would you have at
the end of year 3?
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
FV = PMT (FVIFA i, n ) (1 + i)
FV = 1,000 (FVIFA .08, 3 ) (1.08) (use FVIFA table, or)

FV = PMT (1 + i)n - 1
(1 + i)
i
FV = 1,000 (1.08)3 - 1 = $3,506.11
Wednesday, (1.08)
.08 118
July 12, 2023
 Present Value - annuity due
What is the PV of $1,000 at the beginning of each
of the next 3 years, if your opportunity cost is 8%?

0 1 2 3

Wednesday,
119
July 12, 2023
 Present Value - annuity due
What is the PV of $1,000 at the beginning of each
of the next 3 years, if your opportunity cost is 8%?

1000 1000 1000

0 1 2 3

Calculator Solution:
Mode = BEGIN P/Y = 1 I=8
N=3 PMT = 1,000
PV = $2,783.26
Wednesday,
120
July 12, 2023
 Present Value - annuity due
What is the PV of $1,000 at the beginning of each
of the next 3 years, if your opportunity cost is 8%?

1000 1000 1000

0 1 2 3

Calculator Solution:
Mode = BEGIN P/Y = 1 I=8
N=3 PMT = 1,000
PV = $2,783.26
Wednesday,
121
July 12, 2023
 Present Value - annuity due
Mathematical Solution:

Wednesday,
122
July 12, 2023
 Present Value - annuity due
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:

Wednesday,
123
July 12, 2023
 Present Value - annuity due
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
PV = PMT (PVIFA i, n ) (1 + i)

Wednesday,
124
July 12, 2023
 Present Value - annuity due
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
PV = PMT (PVIFA i, n ) (1 + i)
PV = 1,000 (PVIFA .08, 3 ) (1.08) (use PVIFA table, or)

Wednesday,
125
July 12, 2023
 Present Value - annuity due
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
PV = PMT (PVIFA i, n ) (1 + i)
PV = 1,000 (PVIFA .08, 3 ) (1.08) (use PVIFA table, or)

1
PV = PMT 1 - (1 + i)n
(1 + i)
i

Wednesday,
126
July 12, 2023
 Present Value - annuity due
Mathematical Solution: Simply compound the FV of the
ordinary annuity one more period:
PV = PMT (PVIFA i, n ) (1 + i)
PV = 1,000 (PVIFA .08, 3 ) (1.08) (use PVIFA table, or)

1
PV = PMT 1 - (1 + i)n
(1 + i)
i

1
PV = 1000 1 - (1.08 )3 (1.08) = $2,783.26
.08
Wednesday,
127
July 12, 2023
 Uneven Cash Flows
-10,000 2,000 4,000 6,000 7,000

0 1 2 3 4

● Is this an annuity?
● How do we find the PV of a cash flow
stream when all of the cash flows are
different? (Use a 10% discount rate).

Wednesday,
128
July 12, 2023
 Uneven Cash Flows
-10,000 2,000 4,000 6,000 7,000

0 1 2 3 4

● Sorry! There’s no quickie for this one.

We have to discount each cash flow
Wednesday,
back separately. 129
July 12, 2023
 Uneven Cash Flows
-10,000 2,000 4,000 6,000 7,000

0 1 2 3 4

● Sorry! There’s no quickie for this one.

We have to discount each cash flow
Wednesday,
back separately. 130
July 12, 2023
 Uneven Cash Flows
-10,000 2,000 4,000 6,000 7,000

0 1 2 3 4

● Sorry! There’s no quickie for this one.

We have to discount each cash flow
Wednesday,
back separately. 131
July 12, 2023
 Uneven Cash Flows
-10,000 2,000 4,000 6,000 7,000

0 1 2 3 4

● Sorry! There’s no quickie for this one.

We have to discount each cash flow
Wednesday,
back separately. 132
July 12, 2023
 Uneven Cash Flows
-10,000 2,000 4,000 6,000 7,000

0 1 2 3 4

● Sorry! There’s no quickie for this one.

We have to discount each cash flow
Wednesday,
back separately. 133
July 12, 2023
-10,000 2,000 4,000 6,000 7,000

0 1 2 3 4

period CF PV (CF)
0 -10,000 -10,000.00
1 2,000 1,818.18
2 4,000 3,305.79
3 6,000 4,507.89
4 7,000 4,781.09
PV ofWednesday,
Cash Flow Stream: $ 4,412.95
134
July 12, 2023
 Example
● Cash flows from an investment are
expected to be $40,000 per year at the
end of years 4, 5, 6, 7, and 8. If you
require a 20% rate of return, what is
the PV of these cash flows?

Wednesday,
135
July 12, 2023
 Example
● Cash flows from an investment are
expected to be $40,000 per year at the
end of years 4, 5, 6, 7, and 8. If you
require a 20% rate of return, what is
the PV of these cash flows?

$0 0 0 0 40 40 40 40 40

0 Wednesday,
1 2 3 4 5 6 7 8
136
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8
● This type of cash flow sequence is
often called a “deferred annuity.”

Wednesday,
137
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

How to solve:
1) Discount each cash flow back to
time 0 separately.
Wednesday,
138
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

How to solve:
1) Discount each cash flow back to
time 0 separately.
Wednesday,
139
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

How to solve:
1) Discount each cash flow back to
time 0 separately.
Wednesday,
140
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

How to solve:
1) Discount each cash flow back to
time 0 separately.
Wednesday,
141
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

How to solve:
1) Discount each cash flow back to
time 0 separately.
Wednesday,
142
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

How to solve:
1) Discount each cash flow back to
time 0 separately.
Wednesday,
143
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

How to solve:
1) Discount each cash flow back to
time 0 separately.
Wednesday,
Or, 144
July 12, 2023
 $0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

2) Find the PV of the annuity:

PV: End mode; P/YR = 1; I = 20;

PMT = 40,000; N = 5
PV = $119,624
Wednesday,
145
July 12, 2023
 $0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

2) Find the PV of the annuity:

PV3: End mode; P/YR = 1; I = 20;

PMT = 40,000; N = 5
PV 3= $119,624
Wednesday,
146
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

119,624

Wednesday,
147
July 12, 2023
$0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

119,624
Then discount this single sum back to
time 0.
PV: End mode; P/YR = 1; I = 20;
N = 3; FV = 119,624;
Wednesday,
Solve: PV
July 12, 2023
= $69,226 148
 $0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

69,226 119,624

Wednesday,
149
July 12, 2023
 $0 0 0 0 40 40 40 40 40

0 1 2 3 4 5 6 7 8

69,226 119,624

● The PV of the cash flow

stream is $69,226.

Wednesday,
150
July 12, 2023
 Retirement Example
● After graduation, you plan to invest
$400 per month in the stock market. If
you earn 12% per year on your stocks,
how much will you have accumulated
when you retire in 30 years?

Wednesday,
151
July 12, 2023
 Retirement Example
● After graduation, you plan to invest
$400 per month in the stock market. If
you earn 12% per year on your stocks,
how much will you have accumulated
when you retire in 30 years?

400 400 400 400

0 1 2 3 . . . 360
Wednesday,
152
July 12, 2023
 400 400 400 400

0 1 2 3 . . . 360

Wednesday,
153
July 12, 2023
 400 400 400 400

0 1 2 3 . . . 360

● Using your calculator,

P/YR = 12
N = 360
PMT = -400
I%YR = 12
FV = $1,397,985.65
Wednesday,
154
July 12, 2023
Retirement Example
If you invest $400 at the end of each month for the
next 30 years at 12%, how much would you have at
the end of year 30?

Wednesday,
155
July 12, 2023
Retirement Example
If you invest $400 at the end of each month for the
next 30 years at 12%, how much would you have at
the end of year 30?
Mathematical Solution:

Wednesday,
156
July 12, 2023
Retirement Example
If you invest $400 at the end of each month for the
next 30 years at 12%, how much would you have at
the end of year 30?
Mathematical Solution:

FV = PMT (FVIFA i, n )

Wednesday,
157
July 12, 2023
Retirement Example
If you invest $400 at the end of each month for the
next 30 years at 12%, how much would you have at
the end of year 30?
Mathematical Solution:

FV = PMT (FVIFA i, n )
FV = 400 (FVIFA .01, 360 ) (can’t use FVIFA table)

Wednesday,
158
July 12, 2023
Retirement Example
If you invest $400 at the end of each month for the
next 30 years at 12%, how much would you have at
the end of year 30?
Mathematical Solution:

FV = PMT (FVIFA i, n )
FV = 400 (FVIFA .01, 360 ) (can’t use FVIFA table)

FV = PMT (1 + i)n - 1
i

Wednesday,
159
July 12, 2023
Retirement Example
If you invest $400 at the end of each month for the
next 30 years at 12%, how much would you have at
the end of year 30?
Mathematical Solution:

FV = PMT (FVIFA i, n )
FV = 400 (FVIFA .01, 360 ) (can’t use FVIFA table)

FV = PMT (1 + i)n - 1
i
FV = 400 (1.01)360 - 1 = $1,397,985.65
Wednesday,
160
.01
July 12, 2023
 House Payment Example
If you borrow $100,000 at 7% fixed
interest for 30 years in order to
buy a house, what will be your
monthly house payment?

Wednesday,
161
July 12, 2023
 House Payment Example
If you borrow $100,000 at 7% fixed
interest for 30 years in order to
buy a house, what will be your
monthly house payment?

Wednesday,
162
July 12, 2023
 ? ? ? ?

0 1 2 3 . . . 360

Wednesday,
163
July 12, 2023
 ? ? ? ?

0 1 2 3 . . . 360

● Using your calculator,

P/YR = 12
N = 360
I%YR = 7
PV = $100,000
Wednesday,PMT = -$665.30
164
July 12, 2023
House Payment Example
Mathematical Solution:

Wednesday,
165
July 12, 2023
House Payment Example
Mathematical Solution:

PV = PMT (PVIFA i, n )

Wednesday,
166
July 12, 2023
House Payment Example
Mathematical Solution:

PV = PMT (PVIFA i, n )
100,000 = PMT (PVIFA .07, 360 ) (can’t use PVIFA table)

Wednesday,
167
July 12, 2023
House Payment Example
Mathematical Solution:

PV = PMT (PVIFA i, n )
100,000 = PMT (PVIFA .07, 360 ) (can’t use PVIFA table)

1
PV = PMT 1 - (1 + i)n
i

Wednesday,
168
July 12, 2023
House Payment Example
Mathematical Solution:

PV = PMT (PVIFA i, n )
100,000 = PMT (PVIFA .07, 360 ) (can’t use PVIFA table)

1
PV = PMT 1 - (1 + i)n
i

1
100,000 = PMT 1 - (1.005833 )360 PMT=$665.30
Wednesday, .005833
169
July 12, 2023
 Team Assignment
Upon retirement, your goal is to spend 5
years traveling around the world. To
travel in style will require $250,000 per
year at the beginning of each year.
If you plan to retire in 30 years, what are
the equal monthly payments necessary
to achieve this goal? The funds in your
retirement account will compound at
10% annually.
Wednesday,
170
July 12, 2023
 250 250 250 250 250

27 28 29 30 31 32 33 34 35

● How much do we need to have by

the end of year 30 to finance the
trip?

● PV30 = PMT (PVIFA .10, 5) (1.10) =

= 250,000 (3.7908) (1.10) =
= $1,042,470
Wednesday,
171
July 12, 2023
 250 250 250 250 250

27 28 29 30 31 32 33 34 35
Using your calculator,

Mode = BEGIN
PMT = -$250,000
N=5
I%YR = 10
P/YR = 1
PV = $1,042,466
Wednesday,
172
July 12, 2023
 250 250 250 250 250

27 28 29 30 31 32 33 34 35

1,042,466

● Now, assuming 10% annual

compounding, what monthly
payments will be required for
you to have $1,042,466 at the end
of year 30?
Wednesday,
173
July 12, 2023
 250 250 250 250 250

27 28 29 30 31 32 33 34 35

1,042,466
∙ Using your calculator,
Mode = END
N = 360
I%YR = 10
P/YR = 12
FV = $1,042,466
Wednesday, PMT = -$461.17
174
July 12, 2023
● So, you would have to place $461.17 in
your retirement account, which earns
10% annually, at the end of each of the
next 360 months to finance the 5-year
Wednesday,
world tour. 175
July 12, 2023