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Economics
Econ210D
Presentation 3
Interest and Time Value of Money
Week 3
1
Simple Interest
Interest remains constant each year.
Interest is not reinvested
Interest is calculated by the formula.
I Prn
where: I = Interest, P = Principal, r =
interest, n = number of years.
Interest and Time Value of Money
Week 3
Compound Interest
Interest is based on principal plus reinvested interest
A P 1 r
Future Value
F I 1 r
where:
F = Future value
I = Investment/Principal
r = rate of interest (for each time
period)
n = numberInterest
ofandtime
periods.
Time Value of Money
Week 3
Present Value
P
n
1 r
where:
P = Present value
I = Investment/Principal
r = rate of interest (for each time
period)
n = numberInterest
ofandtime
periods.
Time Value of Money
Week 3
Jan 1 2009
st
$100
$100
Ordinary Annuity
$100
$100
$100
11
Year
Amount
Workings
$100
$140
$100
$125
$100
$112
$0
$0
Total
$300
$378
Future Value
12
13
1 r n1 1
1
I
where
I = periodic investment
r = interest rate per period
n = number of periods
Interest and Time Value of Money
Week 3
14
15
Year
Amount
Workings
$0
$0
Dec 31st
2009
$100
$125
Dec 31st
2010
$100
$112
$100
$100
Total
$300
$337
Future Value
16
17
1 r
I
where
I = periodic investment
r = interest rate per period
n = number of periods
Interest and Time Value of Money
Week 3
18
Question 1
At the beginning of each year an
investor deposits $10,000 into an
account which offers 10% p.a.
compound interest. What is the value of
the investment at the end of 4 years?
Interest and Time Value of Money
Week 3
19
Question 2
At the end of each year an investor
deposits $2,000 into an account
which offers 2% p.a. compound
interest. What is the value of the
investment at the end of 5 years?
Interest and Time Value of Money
Week 3
20
Question 3
At the end of each quarter an investor
deposits $400 into an account which
offers 12% p.a. compound interest.
What is the value of the investment at
the end of 1 year?
Interest and Time Value of Money
Week 3
21
Question 4
At the beginning of each month an
investor deposits $100 into an account
which offers 12% p.a. compound
interest. What is the value of the
investment at the end of 6 months?
Interest and Time Value of Money
Week 3
22
23
Year
Amount
Workings
$100
$100
$100
$89
$100
$80
$0
$0
Total
$300
$269
Present Value
24
25
PVADUE I
1
n 1
1 r 1
where
I = periodic investment
r = interest rate per period
n = number of periods
Interest and Time Value of Money
Week 3
26
27
Year
Amount
Workings
$0
$0
Dec 31st
2009
$100
$89
Dec 31st
2010
$100
$80
$100
$71
Total
$300
$240
Present Value
28
29
1
1
n
1 r
r
PVAORDINARY I
where
I = periodic investment
r = interest rate per period
n = number of
periods
Interest and Time Value of Money
Week 3
30
Question 5
At the beginning of each year an
investor deposits $10,000 into an
account which offers 10% p.a.
compound interest. What is the present
value of the investment if this is done
over 4 years?
Interest and Time Value of Money
Week 3
31
Question 6
At the end of each year for 5 years an
investor deposits $2,000 into an
account which offers 2% p.a.
compound interest. What is the
present value of the investment?
Interest and Time Value of Money
Week 3
32
Question 7
At the end of each quarter an investor
deposits $400 into an account which
offers 12% p.a. compound interest.
What is the present value of the
investment if this is done over 1
year?
33
Question 8
At the beginning of each month for 6
months an investor deposits $100 into
an account which offers 12% p.a.
compound interest. What is the
present value of the investment?
Interest and Time Value of Money
Week 3
34