Chapter 6: Beyond Two Cash Flows

amortized loan

a loan that has identical payments throughout the contract. payments are applied first toward reducing the interest balance and any remaining sum towards the principal balance. consequently, the proportion of each payment that pays interest decreases while the proportion applied to the principal increases throughout the loan

amortization schedule

a payment-by-payment table that shows the beginning balance, interest, and principal paid per payment, and the resulting ending balance for an amortized loan, such as a mortgage or car loan

annuity

a finite stream of recurring payments that are paid or received at regular intervals; there are ordinary annuities, anuity dues, and growing annuities

annuity due

a finite stream of identical recurring payments whose payments occur at the beginning of each period

• rent and leases

closing costs

expenses such as origination fees, appraisal fees, title searches, surveys, recording fees, and more, that parties incur in a real estate transaction

• typically run 2% - 5% of the purchase price, and whether the buyer or seller pays them is negotiable

consistent

in TVM calculations involving the annuity formulae, you must define both the payment frequency and the periodic rate over the same unit of time

• start with the payment, then determine the rate

exchange-traded fund (ETF)

a security that operates much like a mutual fund but can be bought and sold on a stock market just as company shares do

• ETF’s can track a particular portfolio, commodity, or industry, to name a few

  • SPDR S&P 500 was the first ETF and still is popular

growing annuity

an annuity whose payments increase at a constant rate per period for the length of the contract

growing perpetuity

a perpetuity whose payments increase by a constant percentage each period forever

lease

a contract that allows a party to temporarily rent an asset for a fixed period under a set of prespecified conditions

• lease can differ from rent in the case of large capital assets because generally accepted accounting principles may require the lessor (rentor) to book the asset and the lease on its balance sheet

level perpetuity/perpetuity

an infinite stream of regularly paid identical cash flows

ordinary annuity

a finite stream of identical recurring payments whose payments occur at the end of each period

• car loans, mortgages

  • when people say “annuity” most of the time they mean “ordinary annuity”