Chapter 5: Time Value of Money

I.True/False Questions
1 In an annuity due, the cash flows occur at the T
beginning of the period
The concept of the time value of money is that T
money today is worth more than the same amount
2 in the future
3 If the discount rate decreases, the present value of F
a given future amount decreases
Discount: lãi xuất giảm -> PV tăng
Interest earned on the reinvestment of previous T (F)
interest payments is called complex interest. Nó là Compound Interest chứ không phải
4 Complex Interest
A saving account at Bank A pays 6 percent interest, F
compounded annually. Bank B's savings account Interest rate A: 6%
pays 6 percent compounded semiannually. Bank B Interest rate B: 6.09%
5 is paying twice as much interest.

II.Short answer

Question 1: What is the concept of the time Value of Money?

Time value of money is the concept that

+ Same amount of money in different times has different value

+ Time value of money is the value of money caculated for a specified time in the present or
future (Là giá trị của tiền được tính tại 1 thười điểm cụ thể: Hiện tại hoặc tương lai)

+ To compare value of an amount of money received in different points in time, they must be
discount to a particular point in time (Để so sánh được giá trị của những lượng tiền tại các
mốc thời gian khác nhau, chúng phải được Discount về 1 mốc thời gian cụ thể)

Thầy chữa: In general, the concept of the time value of money refers to the idea that
the value of money received today is greater than the value of money received a
few days later or that the value of money received in the future is less than the
value of money received now.
Question 2: Which annuity has a higher future value: An annuity due or a similar ordinary
annuity? Explain.

Annuity due is higher:

Công thức: FVAn= C. ((1+r)^n-1). (1+r)/r

Lớn gấp (1+r); khoản lớn hơn này bản chất là do Annuity due gửi các khoản tiền vào đầu kì;
sớm hơn Ordinary annuity gửi tiền vào cuối kì; -> khoản tiền đầu kì đó đã sinh lãi trong thời
gian chưa gửi Annuity; càng kéo dài khoảng thời gian ra càng thấy khoảng chênh lệch giữa 2
kiểu gửi càng lớn ; nhất là nếu dùng Compound interest.
Question 3: What is the Difference between Simple Interest and Compound Interest?

- Interest của Simple interest không được reinvestment

Question 4: You are considering two annuities, both of which pay a total of $50,000 over the
life of the annuity. Annuity A pays $5,000 at the end of each year for the next 10 years.
Annuity B pays $1,000 at the end of each year for the next 50 years.

Which annuity has the greater value today? Explain without calculation

 Số chu kì tiền sinh lãi của A: 10; của B: 50 lần

Với cùng 1 số tiền; với cùng 1 lãi xuất; nếu chia làm nhiều chu kì sinh lãi hơn thì khả năng
cao nhận được số tiền lớn hơn;

Bản chất EAR > APR

Tuy nhiên bài này vẫn cần tính số cụ thể mới chắc chắn được; do đây là dạng gửi thêm tiền
định kì Ordinary Annuity.

Thầy chữa: As long as the discount rate is positive, Annuity A will have a greater
value. Because of time value, an annuity with a large amount of money coming
early will have a higher value than an annuity with a large amount of money
coming later.

III. Multiple Choice Question

1. You plan to analyze the value of an ordinary annuity (cuối kì) investment by calculating
the sum of the present values of its expected cash flows. Which of the following would
lower the calculated value of the investment? Assume a positive interest rate.

A. The discount rate decreases. (F)

B. The riskiness of the investment’s cash flows decreases. Rủi ro giảm -> Lx giảm ->
Discount rate tăng -> PV càng giá trị hơn

C. Reducing the size of the annual payments by half (e.g., reducing the annual payment from
$100 to $50) while doubling the number of annual payments (e.g., doubling the number of
annual payments from 10 to 20). (F); sẽ làm tăng Value

D. Doubling the size of the annual payments (e.g., doubling the annual payment from $100 to
$200) while reducing the number of annual payments by half (e.g., reducing the number of
annual paymentsfrom 10 to 5)

2. Which of the following statements is CORRECT?

A. The cash flows of an annuity due occur at the end of each period. (F)
B. If a series of unequal cash flows occurs at regular intervals, such as once a year, then the
series is by definition an annuity. (F)

C. The cash flows for an ordinary annuity remain constant from period to period and
they occur at the end of each period.

D. If a series of equal cash flows occurs at regular intervals, such as once per year, then the
series must not be an annuity. (F)

3. By increasing the number of compounding periods in a year, while holding the stated
annual interest rate constant, you will.....

A. decrease the effective annual rate

B. increase the effective annual rate (Lxuat hiệu dụng)

C. not change the effective annual rate

D. There is not enough information to answer the question

4. Which of the following statements is TRUE?

Statement I: The future value of a lump sum (Khoản thanh toán 1 lần) and the future value of
an annuity will both increase as you increase the interest rate. (T)

Statement II: As you increase the length of time from now until the time of receipt of a lump
sum, the present value of the lump sum increases. (F); kéo dài thời gian thì PV giảm

Statement III: The present value of a lump sum (Khoản thanh toán 1 lần) to be received at
some point in the future decreases as you increase the interest rate, but the present value of an
annuity increases as you increase the interest rate. (F); Lx càng cao thì PV càng nhỏ

A. Statement I only

B. Statement II only (F)

C. Statement III only (F)

D. Statements I and II only (F)

5. Which of the following best describes the structure of an annuity?

A. a series of payments to be received during a period of time. (thiếu :

a common interval: nhận định kì)

B. a series of payments to be received at a common interval during a period of time.

C. a series equal payments to be received at a common interval during a period of time. (Vậy
là niên kim yêu cầu các khoản cần bằng nhau )

D. the present value of a set of payments to be received during a future period of time.

6. Your bank account pays a 6% stated annual interest rate (or APR). The interest is
compounded quarterly.Which of the following statements is CORRECT?

A. The quarterly interest rate is 1.5% and the effective annual interest rate is 3%.

B. The quarterly interest rate is 6% and the effective annual interest rate is greater than 6%.

C. The quarterly interest rate is 1.5% and the effective annual interest rate is greater
than 6%.

D. The quarterly interest rate is 3% and the effective annual interest rate is 6%.

7. Which of the following investments would have the highest future value at the end of 10
years? Assumethat the effective annual interest rate for all investments is the same and is
greater than zero.

A. Investment A pays $250 at the beginning of every year for the next 10 years (a total of 10

payments). (à; future value)

B. Investment B pays $125 at the end of every 6-month period for the next 10 years (a total
of 20 payments).

C. Investment C pays $125 at the beginning of every 6-month period for the next 10
years (a total of 20 payments).

D. Investment D pays $2,500 at the end of 10 years (just one payment).

8. Which of the following cannot be calculated?

A. The future value of an annuity at the end of its life.

B. The present value of an annuity.

C. The future value of a perpetuity at the end of its life.

D. The present value of a perpetuity.

9. What is the total amount accumulated after three years if someone invests $1,000 today
with a simple annual interest rate of 5 percent? With a compound annual interest rate of 5
percent?
A. $1,150, $1,103

B. $1,110, $1,158

C. $1,150, $1,158

D. $1,110, $1,103

10. Suppose an investor wants to have $10 million to retire 45 years from now. How much
would she have to invest today with an annual rate of return equal to 15 percent?

A. $18,561

B. $17,844

C. $20,003

D. $21,345

11. Which of the following is false?

A. The longer the time period, the smaller the present value, given a $100 future value and
holding the interest rate constant. (T)

B. The greater the interest rate, the greater the present value, given a $100 future value
and holding the time period constant. (F); Lx càng cao thì PV càng nhỏ

C. A future dollar is always less valuable than a dollar today if interest rates are positive. (T)

D. The discount factor ( PV ) is the reciprocal (nghịch đảo ) of the compound factor (Future
Value).

12. Which of the following concepts is incorrect?

A. An ordinary annuity has payments at the end of each year. (T)

B. An annuity due has payments at the beginning of each year. (T)

C. A perpetuity is considered a perpetual annuity. (T)

D. An ordinary annuity has a greater Present Value than an annuity due, if they both
have the same periodic payments, discount rate and time period. (F); sai; luôn bé hơn vì
Anuity due có khoản gửi đầu kì

13. Jan plans to invest an equal amount of $2,000 in an equity fund every year-end beginning
this year. The expected annual return on the fund is 15 percent. She plans to invest for 20
years. How much could she expect to have at the end of 20 years?

A. $237,620

B. $176,424

C. $204,887
D. $178,424

14. To triple $1 million, Mika invested today at an annual rate of return of 9 percent. How
long will it take Mika to achieve his goal?

A. 15.5 years

B. 13.9 years

C. 12.7 years

D. 10 years

15. Time value of money indicates (Biểu thị, cho thấy) that

A. A unit of money obtained today is worth more than a unit of money obtained in future (T)

B. A unit of money obtained today is worth less than a unit of money obtained in future
(F)Sai vì 1 đồng kiếm được hôm nay có giá trị hơn 1 đồng kiếm được ngày mai

C. There is no difference in the value of money obtained today and tomorrow (F)

D. None of the above

16. Time value of money supports the comparison of cash flows recorded at different time
period by

A. Discounting all cash flows to a common point of time (Discounting = Pv)

B. Compounding all cash flows to a common point of time (Compounding =Fv)

C. Using either a or b (-> đưa về cùng 1 giá trị PV hoặc FV để so sánh đều được)

D. None of the above.

17. If the nominal rate of interest is 10% per annum and there is quarterly compounding, the
effective rate of interest will be:

A. 10% per annum

B. 10.10 per annum

C. 10.25%per annum

D. 10.38% per annum

18. Relationship between annual nominal rate of interest and annual effective rate of interest,
if frequency of compounding is greater than one:

A. Effective rate > Nominal rate

B. Effective rate < Nominal rate

C. Effective rate = Nominal rate

D. None of the above

19. Mr. X takes a loan of Rs 50,000 from HDFC Bank. The rate of interest is 10% per annum.
The first installment will be paid at the end of year 5. Determine the amount of equal annual
installments if Mr. X wishes to repay the amount in five installments.

A. Rs 19500

B. Rs 19400

C. Rs 19310

D. None of the above

Mr X đã nhận tiền -> phải tính PV để ra số tiền cần trả

X cần trả 1 lượng bằng nhau hàng năm ; khoản trả đầu tiên sẽ được trả vào năm thứ 5

20. If nominal rate of return is 10% per annum and annual effective rate of interest is 10.25%
per annum, determine the frequency of compounding:

A. 1

B. 2

C. 3

D. None of the above

22. In a typical loan amortization schedule, the dollar amount of interest paid each
period... (lượng tiền lãi trả mỗi kì) (vd lãi 10% của 100k là 10k):10k

A. increases with each payment (F)

B. decreases with each payment: lượng tiền lãi hàng kì giảm sau mỗi lần trả nợ

C. remains constant with each payment

D. A or C

23. In a typical loan amortization schedule, the total dollar amount of money paid each
period... (Tổng lượng tiền lãi trả mỗi kì)

A. increases with each payment

B. decreases with each payment

C. remains constant with each payment (Lượng tiền trả mỗi kì vẫn giữ nguyên)

D. A or C (hình như nếu không thắng lãi suất thì vẫn tăng ??)
24. In 3 years you are to receive $5,000. If the interest rate were to suddenly increase, the
present value of that future amount to you would

A. Fall.

B. Rise.

C. Remain unchanged.

D. cannot be determined without more information.

25. With continuous compounding (lãi kép) at 10 percent for 30 years, the future value of an
initial investment of 2000 is closest to

A. 34,898

B. 40,141 ( CÁI QUÁI J THẾ NÀY ) : Tsao công thức lại là FV= PV.e^(10%.30)

C. 164,500

D. 111,990

IV. Excersice

1. Janky Real Estate is considering selling an apartment property that it owns. A buyer is
willing to pay $2,000,000 for the property, all of which would be paid to Janky upfront
(today). Determine what Janky should do under the following scenarios.

a. Janky expects the property to generate a cash inflow of $150,000 every year, forever,
with the first cash flow occurring one year from today. The applicable discount rate is 10%.

b. Janky expects the property to generate a cash inflow of $150,000 one year from today,
and this amount will grow by approximately 3% every year thereafter, forever. The
applicable discount rate is 10%.

Giải:

a. Janky nhận 150k 1 năm vĩnh viễn; 10%

 PV= 150k/0,1 = 1 triệu 5 $ -> Bên mua đang trả cao hơn -> Janky nên bán
b. Janky nhận 150k và mỗi năm tăng 3% sau đó

150,000/(0.1 – 0.03) = $2,142,857 -> Janky nên giữ lại

Thầy chữa: a. In this case, the property can be valued as a perpetuity with constant annual
payment of $150,000.

Using the constant perpetuity formula, we compute the present value of the property
as:150,000/0.1 = $1,500,000

This is less than the $2,000,000 that the buyer is willing to pay, so Janky should take the
buyer’s offer and sell today for $2,000,000.
b. In part b we have a growing perpetuity.

The present value of the growing perpetuity is calculated as follows:

150,000/(0.1 – 0.03) = $2,142,857

In this case, the present value of the cash flows generated by the property is higher than the
offer from the buyer. So Janky should not sell the property.

2. To supplement your planned retirement in exactly 42 years, you estimate that you need to
accumulate $1million by the end of 42 years from today. You plan to make equal annual
end of-year deposits into an account paying 4 percent annual interest.

a. How large must the annual deposits be to create the $1 million amount by the end of
42 years?

b. If you can afford to deposit only $5,000 per year into the account, how much will you
have accumulated by the end of the forty-second year?

Giải:

a. Đó là khoản Ordinary Anuity

Công thức:

FV của O.A= c/r .( (1+r)^n -1 ) = 1.000.000

Với r=4% ; n = 42 -> c= 9540,2$

b. Fv = c/r . ( (1+r)^n-1) = 524.097 $

Thầy chữa: a. Using the calculator:

N=42

I/Y=4

FV=1,000,000

PV=0

Solve for PMT => PMT=9,540.20

So, you would need to invest $9,540.20 at the end of each year for 42 years in order to reach
your goal of $1 million.

b. N=42

I/Y=4

PMT=5,000

Solve for FV = 524,097.99

With annual end-of-year deposits of $5,000, you would have $524,097.99 at the end of 42
years.

3. Mr. Weasley is borrowing $600,000 to buy a car. The terms of the loan call for equal
annual payments for 5 years at 8% interest. What is the amount of each payment?

Mr Weasley vay 600k để mua xe -> Khoản nợ này yêu cầu trả hàng năm 1 khoản trong 5
năm; với lãi xuất hàng năm 8%

Tức là tiền trả trong tương lai đã bị sụt giảm giá trị rồi; nên công thức dùng để tính khoản nợ
cần trả khi đã cầm tiền tươi về tay rồi phải là PV

Còn công thức tính tiền gửi ngân hàng; hay mục tiêu 40 năm nữa; thì là FV

Thầy chữa: $ 600,000=𝐶×(1−1/1.08^5)/0.08 ↔𝐶=$150,273.87

Thầy dùng công thức tính PV của Ordinary anuity

4. Assume that you just won the state lottery.

Your prize can be taken either in the form of $40,000 at the end of each of the next 25 years
or as a single payment of $500,000 paid immediately.

a. If you expect to be able to earn 5% annually on your investments over the next 25
years (i.e. 5percent is the appropriate discount rate), ignoring taxes and other considerations,
which alternative should you take? Assume that your only decision criteria is selecting the
option with the highest present value.

b. Would your decision in part (a) be altered if you could earn 7 percent rather than 5
percent on your investments over the next 25 years?

Giải:

Bạn vừa Win sổ số; bạn có thể nhận 40,000$ ở cuối mỗi năm trong 25 năm tới; hoặc nhận
500,000$ ngay lập tức

a. Bạn mong nhận được 5% khoản đầu tư của bạn trong 25 năm tới; bỏ qua thuế và những
điều bận tâm khác; giả sử rằng quyết định của bạn dựa trên cái nào có PV cao nhất
PV = C/r .(1-1/(1+r)^n) = 563,757 -> cao hơn nhận 500k ngay -> bạn sẽ chọn phương án
a
b. Liệu lựa chọn của bạn trong phần a có bị ảnh hưởng nếu bạn có thể kiếm 7% trong khoản
đầu tư kia trong 25 năm tới
PV lúc đó = 466.143,3271 -> Bạn nên chọn phương án b -> trong môi trường lạm phát
cao; tiền càng để lâu càng mất giá

Thầy note: *Note: You could also solve this kind of problem by calculating future values
(instead of present values as we’ve done here), and you would always arrive at the same
answer if you pick the option with the higher future value.

Thầy chữa: a. Finding the present value of this annuity on the calculator:

N=25
I/Y=5

PMT=40,000

FV=0

(*Note: Here I am setting FV to zero because we are not using it. If you cleared the TVM
registers prior to beginning the problem, FV should already be set to zero and you don’t have
to manually set it to zero. To clear your TVM registers, hit the 2nd button and then hit the FV
button.)

Solve for PV => PV=563,758

At 5%, taking the award as an annuity is better because its present value of $563,578 is larger
than the $500,000 single-payment amount.

b. N=25

I/Y=7

PMT=40,000

FV=0

Solve for PV => PV=466,143

At 7%, taking the award as a lump sum is better because the present value of the annuity of
$466,144 is less than the $500,000 lump-sum payment.

*Note: You could also solve this kind of problem by calculating future values (instead of
present values as we’ve done here), and you would always arrive at the same answer if you
pick the option with the higher future value.