User:David E. Sosa/Notebook/2008/10/29

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SJK 17:04, 19 December 2008 (EST)
17:04, 19 December 2008 (EST)
Hey David, Thank you for taking on this lab. I am thinking maybe some of your links are missing? I.e., I don't see any excel sheets below.

Economics and Investment Basics

Introduction

Since a while ago I've been interested in the stock market and overall in investment techniques. I've always thought that it is important to learn these investment techniques regardless of one's profession or field. After all, everyone who lives in society needs money. Since we all need money, it is important to learn how to create it and conserve it. The most common excuse for people to not get acquainted with these skills, is the fear of numbers. We as physicists have no excuse. The way I see it, if we are able to deal with extremely complicated concepts such as quantum mechanics and 4-dimensional things, I see no reason not to understand basic investment techniques. Most of this techniques only require basic algebra and some the analysis techniques learned for this class. When Dr. Koch offered the chance to make a lab related to this, I was excited. I was offered a chance to deepen my knowledge about investing applying techniques learned in this class. In this lab I would like to share some of the things I have learned in the past months.

2 Basic Topics

Admittedly, there are many ways to tackle such a broad and complex topic. But like every topic in physics, we first learn the most basic stuff and the we built up from there. In this lab I have identified 2 concepts that seem the most basic to me in investing and economics i.e. these are the concepts one has to know by heart in order be able to understand the financial section in the newspaper.

Time Value of Money

  • Present Value and future value.
  • Future Value of an Uneven Cash flow.
  • Net Present value or discounted future cash flows.

Different kinds of interest

  • Nominal Rate
  • Periodic Rate
  • Effective Annual

These are really basic concepts, but I think once you get a hold of them, they can get you very far. Oh and one more thing I'd like to talk about. I am always hearing in the news: The Fed cut the interest rate. I never know what is that or why it is important. I'll explore that topic as well.

Time Value of Money

The time value of money principle says that future dollars are not worth as much as dollars today.

Present and Future Value The present value of any cash flow is given by the formula:

The present value (PV) formula has four variables, each of which can be solved for: 

        1. PV is the value at time=0
        2. FV is the value at time=n
        3. i is the rate at which the amount will be compounded each period
        4. n is the number of periods (not necessarily an integer)

This formula simple tells you how much a future cash in-flow would be worth today. A little example created by me to illuminate the situation: Suppose you are given the chance to receive $5000 and invest them at a 4.50% interest/year today or $6000 in 3 years, what would you choose? If we assume you are a careful investor and you want to know which choice would be the most advantageous,then the formula above should be used. How should we proceed? Most of us would choose the money right now. But if we use the formula to get the present value of $6000 dollars we would find out that waiting those 3 years would be like receiving $5250 today instead of $5000. The sound choice is to wait the 3 years.

EXCEL

The present value formula is the core formula for the time value of money. We are going to build up on it in the next sections.

Compound Interest

I think it is important to explain what a compound interest is. It's very simple actually. Compounding interest is the accumulated interest that is added back to the principal. Example : If you have $10000 at 5% interest, after the 1st month you'll have $10500. The 2nd you'll have 11025, instead of only 11000 like the simple interest.

  • Types of compounding.

Semiannual Rates of Return, or Yields

What is present net value? How do we calculate it for future cash flows? What is it for? Examples?

Different Kinds of Interest Rates

For periodic compounding, future value is given by

Difference between compound interest and simple interest.

Time value of mone First the basics...

Present value is related to the time value of money.

Now about annuities: difference between ordinary annuity and annuity due.


FV(ordinaryannuities)

C = Cash flow per period i = interest rate n = number of payments

How to pay more effectively credit card and mortages??

I found this excel formulas, they are goin to be usefu. NPV(rate,net_inflow)+initial_investment PV(rate,year_number,yearly_net_inflow)

Net Present Value

The net present value is the value of a time series of cash flows. The value of the net present value tells an investor it is wise to invest in certain firm. The net present value is given by:

[math]\displaystyle{ NPV= }[/math]http://upload.wikimedia.org/math/8/9/f/89f4dceea961ed8e7014fd15bcc86306.png

where [math]\displaystyle{ t = the time of the cash flow }[/math]

  • [math]\displaystyle{ NPV\gt 0 }[/math]
  • [math]\displaystyle{ NPV\lt 0 }[/math]
  • [math]\displaystyle{ {NPV}=0 }[/math]


  • Present Value of a Perpetuity
  • Present Value of a Annuity
  • Annuity derivation

References

http://teachmefinance.com/


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