TIME VALUE OF

MONEY
DEFINITION

Reasons for individual’s

Time value of money The time value of money Time Preference for
means that the value of a can also be referred to as Money:
unit of money is different time preference for • Uncertainty
in different time periods. money. • Preference for Consumption
• Investment Opportunities
DIMENSIONS OF TIME VALUE OF MONEY

Single Sum
Future Value
Annuity &
Annuity Due
Dimension
Single Sum
Present
Value
Annuity &
Annuity Due
FUTURE VALUE

• Compounding: Related to determine the future value of a present amount.

• Types:
1. Annual Compounding
2. Semi-annual Compounding
3. Quarterly Compounding
• Generally compounding can be made on annual basis. However,
apart from annual compounding there can be compounding based on

Compounding Basis Value of “m”

Day 360 Days
Week 52 Weeks
Month 12 Months
Quarter 4 Quarters
Semi Annual 2 Semi Annuals
FUTURE VALUE
•  
•  
PRESENT VALUE

• Discounting: Related to determine the present value of a future amount.

 

• Suppose someone will give you Rs1000 six years from now or after six year. What is the
present value of this amount if the interest rate is 10%?
• Find the present value of Rs1000 receivable 20 years hence if the discount rate is 8%.
FUTURE VALUE OF ANNUITY

• An annuity is a series of periodic cash flows (payments or receipt\pts) of equal amounts. The
premium payment of a life insurance policy, for example, is an annuity.

• Suppose you deposit Rs 1000 annually in a bank for 5 year and your deposits earn a compound
interest rate of 10%. What will be the value of series of deposits at the end of 5 years?
PRESENT VALUE OF AN ANNUITY

•  
 
SOME QUESTIONS

• How long does it take for $856 to grow into $1,122 at an annual interest rate of 7%?
• What is the present value of $800 to be received at the end of 8 years, assuming an interest rate
of 20 percent, quarterly compounding?
• What is the present value of $800 to be received at the end of 8 years, assuming an annual
interest rate of 8 percent?
• Find the present value of $1,000 to be received at the end of 2 years at a 12% nominal annual
interest rate compounded quarterly.
FUTURE VALUE OF ANNUITY DUE

• There are two types of annuity. The one in which payments occur at the end of each period is
called ordinary annuity and the other in which payments occur at the beginning of each period
is called annuity due.
(1 + i)n − 1
FV of Annuity Due = A ×   × (1 + i)
i
PRESENT VALUE OF AN ANNUITY DUE

• An annuity is a series of evenly spaced equal payments made for a certain amount of
time. Annuity due is the one in which periodic payments are made at the beginning of each
period.  
PRESENT VALUE OF PERPETUITY

• Perpetuity is an infinite series of periodic payments of equal face value. In other words,
perpetuity is a situation where a constant payment is to be made periodically for an infinite
amount of time. It as an annuity having no end and that is why the perpetuity is sometimes
called as perpetual annuity.
 

• Calculate the present value on Feb 1, 2018 of a perpetuity paying $1,000 at the end of each
month starting from February 2018. The monthly discount rate is 0.8%.