TIME allows you to postpone consumption and earn ● 𝑃100 is invested at 10% interest Tick marks occur at the

Tick marks occur at the end of periods (Time

interest. compounded yearly for 6 𝑦𝑒𝑎𝑟𝑠. 0 is today; Time 1 is the end of the first
period) or the beginning of the second period.
SIMPLE INTEREST is an interest on the 𝐴 = 100 (1 +
.10 1·6
)
1 TIME LINE FOR AN ORDINARY ANNUITY
principal amount 6
𝐴 = 100 (1. 10) OF 𝑃100 FOR 3 𝑌𝐸𝐴𝑅𝑆
𝑆𝐼 = 𝑃0(𝑟)(𝑡) 𝐴 = 117. 16

𝑆𝐼 Simple Interest
𝑃750 at 6. 5% for 5 𝑦𝑒𝑎𝑟𝑠 compounded annually
𝑃0 Deposit today, Principal 0.065 1·5 TIME LINE FOR UNEVEN CASH FLOWS
𝐴 = 750 (1 + 1
)
𝑟 Interest Rate per Period 5
𝐴 = 750 (1. 065)
𝑡 Number of Time Periods 𝐴 = 1, 027. 56

● Assume that you deposit 𝑃1. 000 in an 𝑃25000 at 8% for 3 𝑦𝑒𝑎𝑟𝑠 compounded annually
0.08 1·3
account earning 7% simple interest for 𝐴 = 25000 (1 + )
1 PRESENT VALUE FUTURE VALUE
3
2 𝑦𝑒𝑎𝑟𝑠. What is the accumulated 𝐴 = 25000 (1. 08)
𝐴 = 31, 492. 8 The current value of a The value at some future
interest at the end of the 2nd year?
future amount of money, or time of a present amount
𝑃680 at 5. 5% for 1. 5 𝑦𝑒𝑎𝑟𝑠 compounded monthly a series of payments, of money, or a series of
𝑆𝐼 = 1, 000 (. 07)(2) 0.055 12·1.5 evaluated at a given payments, evaluated at a
𝐴 = 680 (1 + )
𝑆𝐼 = 140 12 interest rate. given interest rate.
18
𝐴 = 680 (1. 0045)
𝐴 = 738. 339 (738. 34) Principal plus Accumulated
COMPOUND INTEREST is when your principal The Value Today
Interest
and earned interest both earn interest
𝑃1500 at 4. 5% for 2 𝑦𝑒𝑎𝑟𝑠 compounded monthly
𝑛 𝑛
0.045 12·2 𝑃𝑉 = 𝐹𝑉𝑛/(1 + 𝑖) 𝐹𝑉𝑛 = 𝑃𝑉(1 + 𝑖)
𝐴 = 1500 (1 + )
𝑟 𝑛𝑡 12
𝐴 = 𝑝 (1 + 𝑛
) 24
𝐴 = 1500 (1. 00375)
𝐴 Total Amount 𝐴 = 1, 640. 98 (1, 640. 99) What is the future value (FV) of an initial 𝑃100
𝑝 Principal after 3 𝑦𝑒𝑎𝑟𝑠, if 𝑖/𝑦𝑟 = 10%?
𝑟 Interest Rate TIME LINES shows the timing of cash flows.
𝑛 Number of Compounding Periods
𝑡 Time in Years
 After 1 𝑦𝑒𝑎𝑟 After 2 𝑦𝑒𝑎𝑟𝑠 After 3 𝑦𝑒𝑎𝑟𝑠 ANNUITY represents a series of equal payments OVERVIEW OF AN ANNUITY DUE
(or receipts) occurring over a specified number of 𝐹𝑉𝐴𝐷𝑛 = 𝑅(1 + 𝑖) + 𝑅(1 + 𝑖)
𝑛 𝑛−1
+...
𝑛 equidistant periods.
𝐹𝑉𝑛 = 𝑃𝑉(1 + 𝑖) 2 1
+ 𝑅(1 + 𝑖) + 𝑅(1 + 𝑖)
2 3 ORDINARY ANNUITY are payments or receipts = 𝐹𝑉𝐴𝑛(1 + 𝑖)
𝐹𝑉1 = 100(1. 10) 𝐹𝑉2 = 100(1. 10) 𝐹𝑉3 = 100(1. 10)
that occur at the end of each period.
3 2
𝐹𝑉1 = 110 𝐹𝑉2 = 121 𝐹𝑉3 = 133. 10 𝐹𝑉𝐴𝐷𝑛 = 1, 000(1. 07) + 1, 000(1. 07)
ANNUITY DUE are payments or receipts that 1
occur at the beginning of each period. + 1, 000(1. 07)
𝐹𝑉𝐴𝐷𝑛 = 1, 225 + 1, 145 + 1, 070
What is the present value (PV) of an initial
𝑃100 after 3 𝑦𝑒𝑎𝑟𝑠, if 𝑖/𝑦𝑟 = 10%? 𝐹𝑉𝐴𝐷𝑛 = 3, 440

𝑛
𝑃𝑉 = 𝐹𝑉𝑛/(1 + 𝑖)
3
𝑃𝑉 = 𝐹𝑉3/(1 + 𝑖)
OVERVIEW OF AN ORDINARY ANNUITY HINT!
3
𝑃𝑉 = 100/(1. 10) The future value of an ordinary annuity
𝑃𝑉 = 75. 13 𝑛−1 𝑛−2 can be viewed as occurring at the end of
𝐹𝑉𝐴𝑛 = 𝑅(1 + 𝑖) + 𝑅(1 + 𝑖) +...
the last cash flow period, whereas the
1 0
Therefore, you have to deposit 𝑃75. 13 + 𝑅(1 + 𝑖) + 𝑅(1 + 𝑖) future value of an annuity due can be
viewed as occurring at the beginning of
today to have 𝑃100 after 3 𝑦𝑒𝑎𝑟𝑠.
2 1 the last cash flow period.
𝐹𝑉𝐴3 = 1, 000(1. 07) + 1, 000(1. 07)
● Julie wants to know how large her + 1, 000(1. 07)
0

deposit of 𝑃10, 000 today will become 𝐹𝑉𝐴3 = 1, 145 + 1, 070 + 1, 000
PRESENT VALUE FUTURE VALUE
at a compound annual interest of 10% ANNUITY ANNUITY
𝐹𝑉𝐴3 = 3, 215
for 5 𝑦𝑒𝑎𝑟𝑠 (1+𝑖)
𝑛−1

𝑃𝑀𝑇 ⎡⎢ ⎤
1 1
𝑛 𝑖
− 𝑛 ⎥ 𝑃𝑀𝑇 𝑖
𝐹𝑉𝑛 = 𝑃0(1 + 𝑖) ⎣ 𝑖(1+𝑖) ⎦
5
𝐹𝑉5 = 10, 000(1 + 0. 10) 𝑛 = 𝑝𝑒𝑟𝑖𝑜𝑑𝑠 𝑛 = 𝑝𝑒𝑟𝑖𝑜𝑑𝑠
𝑖 = 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑟𝑎𝑡𝑒 𝑖 = 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑟𝑎𝑡𝑒
𝐹𝑉5 = 16, 105. 10
What is the future value (FV) & the present SCENARIO 1: How much cash did you have to outlay in total to
value (PV) of a 3 𝑦𝑒𝑎𝑟 ordinary annuity of ● Want to retire in 35 𝑦𝑒𝑎𝑟𝑠 accumulate that much?
𝑃100 at 10%? ● Deposit 𝑃2, 500 year into a fund (which SCENARIO 1 SCENARIO 2
returns 12. 1% annually)
PRESENT VALUE FUTURE VALUE 1. How much will you have to retire on in 35 1, 104, 853 182, 231
𝑛−1
years?
(1+𝑖)
𝑃𝑀𝑇 ⎡⎢ ⎤
1 1
𝑖
− 𝑛 ⎥ 𝑃𝑀𝑇 𝑖
⎣ 𝑖(1+𝑖) ⎦ 𝑃𝑀𝑇 = 2, 500
3−1
(1+0.10) 𝑛 = 35
𝑃𝑀𝑇 ⎡⎢ 0.10 − ⎤
1 1
3 ⎥ 𝑃𝑀𝑇 0.10
⎣ 0.10(1+0.10) ⎦
𝑖 = 12. 1%
𝑃𝑀𝑇 = 248. 69 𝑃𝑀𝑇 = 331
𝐹𝑉 = 1, 104, 853

(2500)(35) = 87, 500 𝑡𝑜𝑡𝑎𝑙 𝑐𝑎𝑠ℎ 𝑜𝑢𝑡𝑙𝑎𝑦

SCENARIO 2:
● Want to retire with you in 35 𝑦𝑒𝑎𝑟𝑠 but is
What is the future value (FV) & the present
ski bum & fails to save his 1st 15 years
value (PV) of a 3 𝑦𝑒𝑎𝑟 annuity due of 𝑃100 at ● Deposit 𝑃2, 500 year into an S&P 500 Index
10%? Fund (which returns 12. 1% annually)
PV OF ANNUITY FV OF ANNUITY 1. How much will you have to retire on in 35
years?
DUE DUE
𝑃𝑀𝑇 = 2, 500
(𝑃𝑉 𝑜𝑓 𝑂𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝐴𝑛𝑛𝑢𝑖𝑡𝑦) (𝐹𝑉 𝑜𝑓 𝑂𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝐴𝑛𝑛𝑢𝑖𝑡𝑦)
(1 + 𝑖) (1 + 𝑖) 𝑛 = 20 (35 − 15)

(249. 69)(1 + 0. 10) (331. 00)(1 + 0. 10) 𝑖 = 12. 1%

= 273. 56 = 364. 10
𝐹𝑉 = 182, 231

(2500)(20) = 50, 000 𝑡𝑜𝑡𝑎𝑙 𝑐𝑎𝑠ℎ 𝑜𝑢𝑡𝑙𝑎𝑦