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24 Cards in this Set
- Front
- Back
“Money has a time value”—money can grow or increase over time and money today is worth less than money received in the future
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Important Principle of Finance
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Math of finance whereby interest is earned over time by saving or investing money
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Time Value of Money
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Interest earned only on the principal of the initial investment
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Simple Interest
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Value of an investment or savings amount today or at the present time
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Present Value
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Value of an investment or savings amount at a specified future time
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Future Value
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Future value = Present value + (Present value x Interest rate)
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Time value of money equation
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Arithmetic process whereby an initial value increases at a compound interest rate over time to reach a value in the future
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Compounding
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Earning interest on interest in addition to interest on the principal or initial investment
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Compound Interest
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Where: PV = present value amount FVIFr,n = pre-calculated future value interest factor for a specific interest rate (r) and specified time period (n)
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Future Value: (FVn) = PV(FVIFr,n)
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An arithmetic process whereby a future value decreases at a compound interest rate over time to reach a present value
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Discounting
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FV = future value
PV = present value r = interest rate n = number of periods |
Four basic variables
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Knowing the values for any three of these variables allows solving for the fourth or unknown variable
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Key Concept
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A series of equal payments that occur over a number of time periods
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Annuity
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Exists when the equal payments occur at the end of each time period (also referred to as a deferred annuity)
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Ordinary Annuity
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FVAn = PMT{[(1 + r)n - 1]/r}
FVA = future value of ordinary annuity PMT = periodic equal payment r = compound interest rate, and n = total number of periods |
Future Value of Annuity
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A loan repaid in equal payments over a specified time period
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Amortized Loan
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Solve for the periodic payment amount
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Process
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FVn = PV(1 + r/m)nxm Where: m = number of compounding periods per year and the other variables are as previously defined
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Compounding or discounting more often than once a year
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Determined by multiplying the interest rate charged (r) per period by the number of periods in a year (m)
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Annual Percentage Rate (APR)
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r x m
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APR equation
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true interest rate when compounding occurs more frequently than annually
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Effective Annual Rate (APR)
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(1 + r)m - 1
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EAR
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Exists when the equal periodic payments occur at the beginning of each period
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Annuity Due
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PMT{[((1 + r)n - 1)/r] x (1 + r)}
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FVADn (future value of annuity due)
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