Question

1. Discuss the individual effects of applying different time horizons (e.g., 10 years vs. 5 years) and different discounting or compounding frequencies (e.g., annual, semi-annual, quarterly, monthly, and daily) on present values (PVs and PVAs) and future values (FVs and FVAs).

Answer 1

Factors affecting Present Value and Future Value

Generally Present value can be described as the today's value of tomorrow's money. Similarly Future value can be described as the tomorrow's value of today's money.

1) Time Horizon

There is an inverse relationship between Present value and time horizon. That is when time horizon increases, Present value decreases and vice-versa.

But in the case of annuity, there exist a direct relationship. ie;when time horizon increases, Present value also increases and vice-versa.

There is an direct relationship between future value and time horizon. That is when time horizon increases, future value also increases and vice-versa.

In the case of annuity, there exist a direct relationship. ie;when time horizon increases, future value also increases and vice-versa.

2) Discounting or Compounding Frequencies

There is an inverse relationship between Present value and compounding frequencies . That is when compounding frequencies increases, Present value decreases and vice-versa.

But in the case of annuity, there exist a direct relationship. ie;when compounding frequencies increases, Present value also increases and vice-versa.

There is an direct relationship between future value and compounding frequencies. That is when compounding frequencies increases, future value also increases and vice-versa.

in the case of annuity, there exist a direct relationship. ie;when compounding frequencies increases, future value also increases and vice-versa.