Question

You own an investment that promises to pay $100,000 thirty years from today. a. What is the present value of this security at a discount rate of 6%? 8%? 10%? b. What is meant by the phrase discounting? What is a discount rate? c. What is the relationship between present values and interest rates?

Answer 1

a]	PV at 6% = 100000/1.06^30 =	$     17,411.01
	PV at 8% = 100000/1.08^30 =	$       9,937.73
	PV at 10% = 100000/1.10^30 =	$       5,730.86
b]	Discounting is the process of finding out the present
	value of sums receivable/payable in future. In simpler
	terms, it converts future sums in current dollar terms.
	Discount rate is the cost of money related to time, which
	provides for the following:
	*Compensation for foregoing current consumption
	*Income that can be earned using the money at hand
	*Compensation for inflation for deferring cash flow
	*Risk in deferring cash flow
c]	PVs and interest rates have an inverse relationship.
	That is, when interest rates go up, the PVs go down and
	vice versa.