Lecture 2: Financial Mathematics I - Time Value of Money

Question 1

time value of money

Answer 1

a sum of money today is worth more than the same sum in the future due to its potential earning capacity

Question 2

timeline

Answer 2

linear representation of the timing of potential cash flows

Question 3

cash flows

Answer 3

movement of money

Question 4

aim of financial maths

Answer 4

convert single or multiple cash flows that will be
received at different points in time to one number that represents the value of all cash flows from an asset or liability at a given
point in time

Question 5

rule 1 of time travel

Answer 5

Only values at the same point in time can
be compared or combined

Question 6

rule 2 of time travel

Answer 6

To move a cash flow forward in time, you
must compound it

Question 7

rule 3 of time travel

Answer 7

To move a cash flow backward in time,
you must discount it

Question 8

future value

Answer 8

measures the value of cash flows at the end of a specified period

Question 9

present value

Answer 9

measures the value of future cash flows at the beginning of a specified
period

Question 10

compounding

Answer 10

process of earning interest over time

Question 11

discounting

Answer 11

process of converting a future cash flows to a PV

Question 12

discount rate

Answer 12

interest rate ‘r’

Question 13

conditions that satisfy a continuity pattern

Answer 13

1. Finite life / Finite number of periods
2. Regular payment intervals / Payments are equally spaced
3. Constant dollar value of payment / Level cash flows

Question 14

ordinary annuity

Answer 14

cash flows occur at the end of each period

Question 14

annuity due

Answer 14

cash flows occur at the beginning of each period

Question 15

annuity due examples

Answer 15

• rent or lease payments are typically made at the beginning of each period rather than at
  end
• A stream of prepayments of the work

Question 16

conditions that satisfy the perpetuity formula

Answer 16

1. Infinite life / Forever
2. Regular payment intervals / Payments are equally spaced
3. Constant dollar value of payment / Level cash flows

Question 17

growing annuity or growing perpetuity

Answer 17

cash flows that
grow at a constant rate over time

Question 18

growing annuity example

Answer 18

Multiyear product or service contracts with cash flows that increase each year at a constant
rate

Question 19

growing perpetuity example

Answer 19

An endowment (or scholarship) that is adjusted for inflation

Question 20

conditions that satisfy the growing annuity formula

Answer 20

1. Finite Life
2. Regular payment intervals / Payments are equally spaced
3. Payment Amount ($C): Payments increasing at the growth rate g

Question 21

Net Present Value (NPV) of a project or investment

Answer 21

the difference between the
present value of its benefits and the present value of its costs.