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Mathematics of Finance: Md. Aktar Kamal Lecturer Department of Management Bangladesh University of Professionals (BUP

This document discusses compound interest and its mathematical formulas. It begins by defining compound interest as computing interest on interest over time. The key formula for finding future value is presented as F=P(1+i)n, where F is future value, P is present value, i is interest rate, and n is number of periods. Examples are provided to demonstrate calculating future value, time, and interest rate using this formula. The document also addresses compound interest for periods more frequent than annually. Homework problems from the textbook are assigned.

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44 views14 pages

Mathematics of Finance: Md. Aktar Kamal Lecturer Department of Management Bangladesh University of Professionals (BUP

This document discusses compound interest and its mathematical formulas. It begins by defining compound interest as computing interest on interest over time. The key formula for finding future value is presented as F=P(1+i)n, where F is future value, P is present value, i is interest rate, and n is number of periods. Examples are provided to demonstrate calculating future value, time, and interest rate using this formula. The document also addresses compound interest for periods more frequent than annually. Homework problems from the textbook are assigned.

Uploaded by

Zubaer Riad
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPT, PDF, TXT or read online on Scribd
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Mathematics of Finance

Md. Aktar Kamal


Lecturer
Department of Management
Bangladesh University of Professionals (BUP

Reading and Objectives


Reading:
Chapter 6 Section 6.7, 6.8, 6.9 of Mathematics with
Applications in Management and Economics by
Prichett and Saber (7th Edition)
Objectives:
At the end of the lecture the students will be able to
understand the compound interest.
Find the total interest, future value, time, interest
rate etc for compound interest.

Compound Interest
Compound Interest: Computing the interest on
interest is called compounding interest.
Let us consider P is the principal amount i% is the
interest rate and n is the number of years and the
period is one year.
Then, the interest of 1 taka for 1 year is i.
After 1 year
Taka one will grow to 1+i.
Taka P will grow to P(1+i).
So we can say that the future value of P after one year
is F1 =P(1+i)

Compound Interest
After 2 year
Taka one will grow to (1+i)2.
Taka P will grow to P(1+i)2.
So we can say that the future value of P after one
year is F2 =P(1+i)2
Similarly after 3 years P will grow to F3 =P(1+i)3
after 3 years P will grow to Fn =P(1+i)n
Or simply F=P(1+i)n

Compound Interest Future value

F=P(1+i)n
Where,
F = Future Value
P = Present Value
i = Interest per take
n= Number of years

Compound Interest Future value

F=P(1+i)

Find the future value of $1,000 at 7% per year for


10 years.
We know F=P(1+i)n , Here P=$1,000
i =7%=7/100=0.07 and
n = 10 years
Hence F= 1,000(1+0.07)10
=1,000(1.07)10
=1,0001.96715=$1,967.15 (ans.)

Compound Interest
When interest is compounded more often
than once a year
Nominal Rate: Quoted interest rates per
year if not accompanied by a qualifying
statement such as 1.5% per month. In the
absence of a qualifier the quoted annual
rate is called the nominal rate and is
symbolized by j.
Nominal rate = Rate per year=j

Compound Interest
When interest is compounded more often
than once a year
Number of Conversions Per year = m
If the number of conversions per year = m
Then,
n= (Number of year )(Number of conversion per year)
And
j

Compound Interest
When interest is compounded more often
than once a year
Where,

F P( 1

j
m

nm

F = Future Value
P = Present Value
j = Nominal Interest Rate per year
n= Number of years
m= number of conversion per year

Compound Interest (Future Value)


Find the future value of $1,500 at 8% compounded
quarterly for 10 years.
Solution: We know, F P ( 1

j
m

) nm

Where,
F = Future Value=?
P = Present Value=$1,500
j = Nominal Interest Rate per year=8%=8/100=0.08
n= Number of years=10
m= number of conversion per year=4
Hence,
104

0.08
F 500 1

500 1.02 500 2.208039665 $1,104.02


4

Compound Interest (Finding Time)


At 8% compounded annually, how many years will it take
for $2,000 to grow to $3,000?
Solution: We know, F P( 1 i )
Where,
F = Future Value=$3,000
P = Present Value=$2,000
i = Interest Rate per period=8%=8/100=0.08
n= Number of years=?
Hence,
n
n

3, 000 2 , 000 1 0.08


3, 000
n
or
1.08
2 , 000
or 1.5 1.08

or ln 1.5 ln 1.08

or ln 1.5 n ln 1.08
ln 1.5
or n
5.268 years
ln 1.08

Compound Interest (Finding Interest)


At what interest rate compounded annually will a
sum of money double in 10 years?
F P( 1 i )n

Solution: We know,
Where,
P = Present Value=P
F = Future Value=2P
i = Interest Rate per period=?
n= Number of years=10
Hence,
10

2 P P( 1 i )

or 2 ( 1 i )10
or ( 1 i )10 2

Compound Interest (Finding Interest


1
10

or ( 1 i ) 2
or ( 1 i ) 1.071773463
or i 1.071773463 1
or i 0.071773463
or i 7.177% ans.

Home Work
Home Work:
Page 408 Example
Page-409-410 Problem 1-4 Problem 5-8
Page-409-410 Problem 9-15

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