Time value of money Cheat Sheet

by Natalie Moore (NatalieMoore) via cheatography.com/19119/cs/11141/

Variable key Equation guide (cont) Loan Amorti​zation (cont)

Where: Present Value of a Mixed Stream - Frequency of payments

1
FV = Future value of an investment PV = [CF1 x 1 / (1 + r) ] + [CF2 x 1 / (1 + - Interest rate
PV = Present value of an investment r)1] + ... + [CFn x 1 / (1 + r)1] Finding a level stream of payments (over
(the lump sum) Present Value of an Ordinary Annuity the term of the loan) with a present value
r = Return or interest rate per period PV = PMT/r x [1 - 1 / (1 + r) ] n calculated at the loan interest rate equal to
(typically 1 year) the amount borrowed
Present Value of Annuity Due
n = Number of periods (typically Loan amorti​zation schedule Used to
PV (annuity due) = PMT/r x [1 - 1 / (1 + r)n]
years) that the lump sum is invested determine loan amorti​sation payments and
x (1 + r)
the allocation of each payment to interest
PMT = Payment amount
and principal
CFn = Cash flow steam number Lump sum future value in excel
Portion of payment repres​enting interest
m = # of times per year r compounds
declines over the repayment period, and the
portion going to principal repayment
Equation guide
increases
Future value of a lump sum:
PMT = PV / {1 / r x [ 1 - 1 / (1 + r)n ] }
n
FV = PV x (1 + r)
- Future​​-value factor (FVF) table Deposits Needed to Accumulate a Future
Present Value of a Growing Perpetuity Sum
- Excel future value formula FV=
- Compound interest. Formula for simple Most cash flows grow over time Determine the annual deposit necessary to
interest is PV + (n x (PV x r)) This formula adjusts the present value of a accumulate a certain amount of money at

perpetuity formula to account for expected some point in the future

Future Value of an Ordinary Annuity
growth in future cash flows E.g. house deposit
FV = PMT x { [ ( 1 + r )n - 1 ] / r}
Calculate present value (PV) of a stream of Can be derived from the equation for fi
Future Value of an Annuity Due
cash flows growing forever (n = ∞) at the nding the future value of an ordinary annuity
FV (annuity due) = PMT x { [ ( 1 + r)n -1 ] / r
constant annual rate g Can also be used to calc required deposit
} x (1 + r)
PV = CF1 / r - g r > g PMT = FV {[( 1 + r)n - 1 ] / r}
Future Value of Cash Flow Streams
FV = CF1 x (1 +r) n-1 + CF2 x (1 + r)n-2 + ... Loan Amorti​zation Once this is done substitute the known
+ CFn x (1 + r)n-n
A borrower makes equal periodic payments values of FV, r, and n into the righthand
Present value of a lump sum in future side of the equation to find the annual
over time to fully repay a loan
n n
PV = FV / (1 + r) = FV x [ 1 / (1+ r) ] deposit required.
E.g. home loan
- Presen​t-value factor (FVF) table
Uses
Stated Versus Effective Annual Interest
- Excel present value formula PV=
- Total $ of loan Rates
- Term of loan Make objective compar​isons of loan costs
or investment returns over different
compou​nding periods
Stated annual rate is the contra​ctual annual
rate charged by a lender or promised by a
borrower

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 Time value of money Cheat Sheet
by Natalie Moore (NatalieMoore) via cheatography.com/19119/cs/11141/

Stated Versus Effective Annual Interest The Power of Compound Interest Present value (cont)
Rates (cont)
Present value declines as the return
Effective annual rate (EAR) AKA the true (discount) rises.
annual return, is the annual rate of interest
E.g. value now of $100 cash flow that will
actually paid or earned
come at some future date is less than $100
- Reflects the effect of compou​nding
frequency PV = FV / (1 + r)n = FV x [ 1 / (1+ r)n ]
- Stated annual rate does not
The Power of Discou​nting
Maximum effective annual rate for a stated
annual rate occurs when interest
compounds contin​uously Future Value of One Dollar

EAR = ( 1 + r/m )m - 1
Present value

Compou​nding contin​uously: EAR (conti​‐ Used to determine what an investor is

r
nuous compou​nding) = e - 1 willing to pay today to receive a given cash
flow at some point in future.
Concept of future value Calcul​ating present value of a single future
cash payment
Apply simple interest, or compound interest Special applic​ations of time value
to a sum over a specified period of time. Depends largely on investment opport​‐
Use the formulas to solve for other
unities of recipient and timing of future cash
Interest might compound: annually, semian​‐
variables
flow
nual, quarterly, and even continuous
- Cash flow CF or PMT
compou​nding periods Discou​nting describes process of calcul​‐
ating present values - Interest / Discount rate r
Future value value of an investment made
today measured at a specific future date - Determines present value of a future - Number of periods n
using compound interest. amount, assuming an opport​unity to Common applic​ations and refine​ments
earn a return (r)
Compound interest is earned both on - Compou​nding more frequently than
principal amount and on interest earned - Determine PV that must be invested at r annually
today to have FV, n from now
Principal refers to amount of money on - Stated versus effective annual interest
which interest is paid. - Determines present value of a future rates
amount, assuming an opport​unity to
Important to understand - Calcul​ation of deposits needed to
earn a given return (r) on money.
After 30 years @ 5% a $100 principle accumulate a future sum
account has: We lose opport​unity to earn interest on
- Loan amorti​sation
- Simple Interest: balance of $250. money until we receive it
- Compound interest: balance of $432.19 To solve, inverse of compou​nding interest
PV of future cash payment declines longer
FV = PV x (1 + r)n investors wait to receive

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 Time value of money Cheat Sheet
by Natalie Moore (NatalieMoore) via cheatography.com/19119/cs/11141/

Compou​nding More Frequently Than Future Value of Cash Flow Streams (cont) Present Value of Cash Flow Streams
Annually
AKA terminal value Present values of cash flow streams that
Financial instit​utions compound interest FV of any stream of cash flows at EOY = occur over several years
semian​nually, quarterly, monthly, weekly, sum of FV of individual cash flows in that Might be used to:
daily, or even contin​uously. stream, at EOY - Value a company as a going concern
The more frequently interest compounds, Each cash flow earns interest, so future - Value a share of stock with no definite
the greater the amount of money that value of stream is greater than a simple maturity date
accumu​lates sum of its cash flows
= sum of the present values of CFn
Semiannual compou​nding
FV = CF1 x (1 +r) n-1 + CF2 x (1 + r)n-2 + ...
Perpetuity: A level or growing cash flow
Compounds twice per year + CFn x (1 + r)n-n
stream that continues forever
Quarterly compou​nding
Same technique as a lump sum
Future Value of an Ordinary Annuity
Compounds 4 times per year
Present Value of a Mixed Stream = Sum of
m values: Two basic types of annuity:
present values of individual cash flows
Semiannual 2 Ordinary annuity = payments made into it at
Mixed stream:
end of each period
Quarterly 4 PV = [CF1 x 1 / (1 + r)1] + [CF2 x 1 / (1 +
Annuity due = payments made into it at the
Monthly 12 r)1] + ... + [CFn x 1 / (1 + r)1]
beginning of each period (arrives 1 year
Weekly 52
sooner)
Present value of an ordinary annuity
Daily 365
So, future value of an annuity due always
Continuous Compou​nding greater than ordinary annuity Present Value of an Ordinary Annuity
m = infinity Future value of an ordinary annuity can be Similar to mixed stream
13 calculated using same method as a mixed
e = irrational number ~2.7183.
Discount each payment and then add up
stream
General equation: FV = PV x (1 + r / m)mxn each term
FV = PMT x { [ ( 1 + r )n - 1 ] / r}
PV = PMT/r x [1 - 1 / (1 + r)n]
Continuous equation: FV (conti​nuous
compou​nding) = PV x ( erxn ) Finding the Future Value of an Annuity Due
Present Value of Annuity Due
Slight change to those for an ordinary
Similar to mixed stream / ordinary annuity
Future Value of Cash Flow Streams annuity
Discount each payment and then add up
Evaluate streams of cash flows in future Payment made at beginning of period,
each term
periods. instead of end
Cash flow realised 1 period earlier
Two types: Earns interest for 1 period longer
Annuity due has a larger present value than
Mixed stream = a series of unequal cash Earns more money over the life of the
ordinary annuity
flows reflecting no particular pattern investment
PV (annuity due) = PMT/r x [1 - 1 / (1 + r)n]
Annuity = A stream of equal periodic cash FV (annuity due) = PMT x { [ ( 1 + r)n -1 ] / r
x (1 + r)
flows } x (1 + r)
More compli​cated than calc future or
present value of a single cash flow, same
basic technique.
Shortcuts available to eval an annuity

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 Time value of money Cheat Sheet
by Natalie Moore (NatalieMoore) via cheatography.com/19119/cs/11141/

Present Value of a Perpetuity

Level or growing cash fl ow stream that

continues forever
Level = infinite life
Simplest modern example = prefered stock
Preferred shares promise investors a
constant annual (or quarterly) dividend
payment forever
- express the lifetime (n) of this security
as infi nity (∞)

PV = PMT x 1/r = PMT/r

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