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FINA 4920E Lecture 3 Notes

by: Morgan Notetaker

FINA 4920E Lecture 3 Notes FINA 4920E

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Morgan Notetaker
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These are notes from the Lecture 3 and Chapter 3 Concepts in Action videos
Financial Modeling
Chris Pope
Class Notes
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This 3 page Class Notes was uploaded by Morgan Notetaker on Wednesday September 7, 2016. The Class Notes belongs to FINA 4920E at University of Georgia taught by Chris Pope in Fall 2016. Since its upload, it has received 8 views. For similar materials see Financial Modeling in Finance at University of Georgia.


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Date Created: 09/07/16
Chapter 3: Advanced TVM  Amortization table tracks interest paid over time  PPMT= principal payment and IPMT= interest payment o Both used to find values within amortization table  Mortgage o Loan taken to finance purchase of a home o Usually 80% of a home’s purchase or construction cost o Buyer then pays other 20% down with cash or bridge financing o Almost always issued with 15 or 30 year maturities o Borrower repays constant payments over fixed time o Mortgage value – PV of ordinary annuity o Typically monthly payments so need a monthly interest rate 1 1− ( ) ' o Mortgage = 1+r N’ PMT r' x ¿ o Ex. Couple takes out a $375,000 mortgage to finance their house. Terms are 3.6% APR with monthly compounding. Find monthly payment.  = -PMT(3.6%/12, 30*12, 375000, 0, 0)= 1704.92  Put negative before everything because Excel will make it negative since that money will be leaving your pocket; add a negative to make the number positive and present better  Payments to Principal o Loan balance is the PV of the remaining payments to be made o For loans there is opportunity to pay off the principal early to remove debt o Extra payment to principal directly reduces the PV of the loan and immediately reduces the number of payments remaining o Ex. Couple takes out a $375,000 mortgage to finance their house. Terms are 3.6% APR with monthly compounding. Monthly payments are $1704.92. The coupe will make an extra $20,000 payment to principal after 5 year (60 th payment). How much time remains on the mortgage after the payment?  Step 1: Find balance after the 60 payment, which is PV of remaining 300 payments  =PV(3.6%/12, 360-60, -1704.92, 0, 0)= 336,938.92  New Balance= 336,938.92- 20,000= 316,938.92  Step 2: Subtract the extra payment to principal and solve for number of periods left (NPER)  =NPER(3.6%/12, -1704.92, 316938.92, 0, 0)= 272.32 months  Amortization Table o Tacks interest paid and principal reduction during life of an amortized loan o IPMT= interest paid for any given period o = IPMT (rate, per, nper, pv, [fv], ]type]) o PPMT= principal reduction for any given period o = PPMT (rate, per, nper, pv, [fv], [type]) o per is the period that you want to find the interest value o Ex. Couple takes out $375,000 mortgage to finance a house. The mortgage terms are 3.6% APR with monthly compounding. Use Excel to find amount of interest paid and principal reduction in the first month.  = -IPMT (3.6%/12, 1, 360, 375000,0,0)= 1125.00  = -PPMT (3.6%/12,1,360,375000,0,0)= 579.92  Put 1 because it’s for the first month, which is period number 1  Equating Annuities o We can compare cash flows or opportunities if they are valued at the same point in time o Discount back to a common point in time so we can add/subtract/ etc on the cash flows o Ex. Graduate plans on saving $800 each quarter for four years in account paying 14% interest compounded quarterly. First deposit will be made in 3 months. In 4 years, he plans to be able to afford a 60-month car loan with $385 monthly payments and 12% APR. How expensive of a car will he expect to be able to buy in 4 years?  Cost of car= Downpayment + Loan value  FV of savings will be the downpayment and PV of payment will be the loan value  These are valued at the same point in time, so they’ll be able to be added together  Step 1: Fine FV of the savings on the day the car is bought  = FV(14%/4, 4*4, -800,0,0)= 16,766.82  Step 2: Find value of loan on day car is bought (PV of payments)  =PV (12%/12, 60, -385, 0, 0)= 17,307.69  Step 3: Car value is sum of savings an loan value  Car Value= 16,766.82 + 17,307.69= 34,084.51 Key Points from Concepts in Action: - Origination fee is what you pay upfront in cash, so it decreases the amount of the loan you have - Over time, principal reduction increases at increasing rate and interest paid decreases - Find IRR: track cash flows going out and then do =IRR(sum of all cash flows, don’t put guess if there is no change in sign) - Find EAR: =EFFECT (IIR*12, payments per year) - If you add origination fee, monthly payments/ cash flows stay the same and EAR increases - When solving for max income pre- retirement, use FV and for rate you use the Income Growth Rate, nper is retirement age minus current age, pmt is 0, PV is current income - FV of Savings: Growing annuity + FV of lump sum Growing Annuity: (1+APR) ¿ [¿(retirement age−currentage)−(1+IncomeGrowth R¿te) ¿(retirementage−current age)] Currentincome∗SavingsRate ( APR−CurrentGrowth Rate)x¿ ¿ FV of Lump Sum: =FV (APR, nper, 0 pmt, amount saved so far, 0) - Amount needed in first year or retirement: % of max income required* Max Income Pre-Retirement


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