1、,Chapter 15,Investment, Time, and Capital Markets,Chapter 15,Slide 2,Topics to be Discussed,Stocks Versus Flows Present Discounted Value The Value of a Bond The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 3,Topics to be Discussed,Adjustments for Risk Investment Deci
2、sions by Consumers Intertemporal Production Decisions- Depletable Resources How are Interest Rates Determined?,Chapter 15,Slide 4,Introduction,Capital Choosing an input that will contribute to output over a long period of time Comparing the future value to current expenditures,Chapter 15,Slide 5,Sto
3、cks Versus Flows,Stock Capital is a stock measurement. The amount of capital a company owns,Chapter 15,Slide 6,Stocks Versus Flows,Flows Variable inputs and outputs are flow measurements. An amount per time period,Chapter 15,Slide 7,Present Discounted Value (PDV),Determining the value today of a fut
4、ure flow of income The value of a future payment must be discounted for the time period and interest rate that could be earned.,Chapter 15,Slide 8,Present Discounted Value (PDV),Future Value (FV),Chapter 15,Slide 9,Present Discounted Value (PDV),Question What impact does R have on the PDV?,PDV of $1
5、 Paid in the Future,0.01 $0.990 $0.980 $0.951 $0.905 $0.820 $0.742 0.02 0.980 0.961 0.906 0.820 0.673 0.552 0.03 0.971 0.943 0.863 0.744 0.554 0.412 0.04 0.962 0.925 0.822 0.676 0.456 0.308 0.05 0.952 0.907 0.784 0.614 0.377 0.231 0.06 0.943 0.890 0.747 0.558 0.312 0.174,InterestRate 1 Year 2 Years
6、3 Years 4 Years 5 Years 6 Years,PDV of $1 Paid in the Future,0.07 0.935 0.873 0.713 0.508 0.258 0.131 0.08 0.926 0.857 0.681 0.463 0.215 0.099 0.09 0.917 0.842 0.650 0.422 0.178 0.075 0.10 0.909 0.826 0.621 0.386 0.149 0.057 0.15 0.870 0.756 0.497 0.247 0.061 0.015 0.20 0.833 0.694 0.402 0.162 0.026
7、 0.004,InterestRate 1 Year 2 Years 3 Years 4 Years 5 Years 6 Years,Chapter 15,Slide 12,Present Discounted Value (PDV),Valuing Payment Streams Choosing a payment stream depends upon the interest rate.,Chapter 15,Slide 13,Two Payment Streams,Payment Stream A: $100 $100 0 Payment Stream B: $20 $100 $10
8、0,Today 1 Year 2 Years,Chapter 15,Slide 14,Two Payment Streams,Chapter 15,Slide 15,PDV of Payment Streams,PDV of Stream A: $195.24 $190.90 $186.96 $183.33 PDV of Stream B: 205.94 193.54 182.57 172.77,R = .05 R = .10 R = .15 R = .20,Why does the PDV of Arelative to B increase asR increases and vice v
9、ersafor B?,Chapter 15,Slide 16,The Value of Lost Earnings,PDV can be used to determine the value of lost income from a disability or death.,Chapter 15,Slide 17,The Value of Lost Earnings,Scenario Harold Jennings died in an auto accident January 1, 1986 at 53 years of age. Salary: $85,000 Retirement
10、Age: 60,Chapter 15,Slide 18,The Value of Lost Earnings,Question What is the PDV of Jennings lost income to his family? Must adjust salary for predicted increase (g) Assume an 8% average increase in salary for the past 10 years,Chapter 15,Slide 19,The Value of Lost Earnings,Question What is the PDV o
11、f Jennings lost income to his family? Must adjust for the true probability of death (m) from other causes Derived from mortality tables,Chapter 15,Slide 20,The Value of Lost Earnings,Question What is the PDV of Jennings lost income to his family? Assume R = 9% Rate on government bonds in 1983,Chapte
12、r 15,Slide 21,The Value of Lost Earnings,Calculating Lost Wages,1986 $ 85,000 .991 1.000 $84,235 1987 91,800 .990 .917 83,339 1988 99,144 .989 .842 82,561 1989 107,076 .988 .772 81,671 1990 115,642 .987 .708 80,810 1991 124,893 .986 .650 80,043 1992 134,884 .985 .596 79,185 1993 145,675 .984 .547 78
13、,408,Year W0(1 + g)t (1 - mt) 1/(1 + R)t W0(1 + g)t(1 - mt)/(1 + R)t,Chapter 15,Slide 23,The Value of Lost Earnings,Finding PDV The summation of column 4 will give the PDV of lost wages ($650,252) Jennings family could recover this amount as compensation for his death.,Chapter 15,Slide 24,The Value
14、of a Bond,Determining the Price of a Bond Coupon Payments = $100/yr. for 10 yrs. Principal Payment = $1,000 in 10 yrs.,Chapter 15,Slide 25,Present Value of the Cash Flow from a Bond,Interest Rate,PDV of Cash Flow ($ thousands),0,0.05,0.10,0.15,0.20,0.5,1.0,1.5,2.0,Chapter 15,Slide 26,The Value of a
15、Bond,Perpetuities Perpetuities are bonds that pay out a fixed amount of money each year, forever.,Chapter 15,Slide 27,Effective Yield on a Bond,Calculating the Rate of Return From a Bond,Chapter 15,Slide 28,Effective Yield on a Bond,Calculating the Rate of Return From a Bond,Chapter 15,Slide 29,Effe
16、ctive Yield on a Bond,Interest Rate,0,0.05,0.10,0.15,0.20,0.5,1.0,1.5,2.0,PDV of Payments (Value of Bond) ($ thousands),Why do yields differ among different bonds?,The effective yield is the interest rate that equates the present value of a bonds payment stream with the bonds market price.,Chapter 1
17、5,Slide 30,The Yields on Corporate Bonds,In order to calculate corporate bond yields, the face value of the bond and the amount of the coupon payment must be known. Assume IBM and Polaroid both issue bonds with a face value of $100 and make coupon payments every six months.,Chapter 15,Slide 31,The Y
18、ields on Corporate Bonds,Closing prices for each July 23, 1999:,IBM 53/8 09 5.8 30 92 -11/2 Polaroid 111/2 06 10.8 80 106 -5/8 a: coupon payments for one year ($5.375) b: maturity date of bond (2009) c: annual coupon/closing price ($5.375/92) d: number traded that day (30) e: closing price (92) f: c
19、hange in price from previous day (-11/2),a b c d e f,Chapter 15,Slide 32,The Yields on Corporate Bonds,The IBM bond yield: Assume annual payments 2009 - 1999 = 10 years,Chapter 15,Slide 33,The Yields on Corporate Bonds,The Polaroid bond yield:,Why was Polaroid R* greater?,Chapter 15,Slide 34,The Net
20、 Present Value Criterion for Capital Investment Decisions,In order to decide whether a particular capital investment is worthwhile a firm should compare the present value (PV) of the cash flows from the investment to the cost of the investment.,Chapter 15,Slide 35,NPV Criterion Firms should invest i
21、f the PV exceeds the cost of the investment.,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 36,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 37,The Electric Motor Factory (choosing to build a $10 million factory) 8,000 motors/ mo
22、nth for 20 yrs Cost = $42.50 each Price = $52.50 Profit = $10/motor or $80,000/month Factory life is 20 years with a scrap value of $1 million Should the company invest?,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 38,Assume all information is certain (no risk) R
23、 = government bond rate,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 39,Net Present Value of a Factory,Interest Rate, R,0,0.05,0.10,0.15,0.20,-6,Net Present Value ($ millions),-4,-2,0,2,4,6,8,10,Chapter 15,Slide 40,Real versus Nominal Discount Rates Adjusting for
24、 the impact of inflation Assume price, cost, and profits are in real terms Inflation = 5%,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 41,Real versus Nominal Discount Rates Assume price, cost, and profits are in real terms Therefore, P = (1.05)(52.50) = 55.13, Ye
25、ar 2 P = (1.05)(55.13) = 57.88. C = (1.05)(42.50) = 44.63, Year 2 C =. Profit remains $960,000/year,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 42,Real versus Nominal Discount Rates Real R = nominal R - inflation = 9 - 5 = 4,The Net Present Value Criterion for C
26、apital Investment Decisions,Chapter 15,Slide 43,Net Present Value of a Factory,Interest Rate, R,0,0.05,0.10,0.15,0.20,-6,Net Present Value ($ millions),-4,-2,0,2,4,6,8,10,Chapter 15,Slide 44,Negative Future Cash Flows Investment should be adjusted for construction time and losses.,The Net Present Va
27、lue Criterion for Capital Investment Decisions,Chapter 15,Slide 45,Electric Motor Factory Construction time is 1 year $5 million expenditure today $5 million expenditure next year Expected to lose $1 million the first year and $0.5 million the second year Profit is $0.96 million/yr. until year 20 Sc
28、rap value is $1 million,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 46,The Net Present Value Criterion for Capital Investment Decisions,Chapter 15,Slide 47,Adjustments for Risk,Determining the discount rate for an uncertain environment: This can be done by incre
29、asing the discount rate by adding a risk-premium to the risk-free rate. Owners are risk averse, thus risky future cash flows are worth less than those that are certain.,Chapter 15,Slide 48,Adjustments for Risk,Diversifiable Versus Nondiversifiable Risk Diversifiable risk can be eliminated by investi
30、ng in many projects or by holding the stocks of many companies. Nondiversifiable risk cannot be eliminated and should be entered into the risk premium.,Chapter 15,Slide 49,Adjustments for Risk,Measuring the Nondiversifiable Risk Using the Capital Asset Pricing Model (CAPM) Suppose you invest in the
31、entire stock market (mutual fund) rm = expected return of the stock market rf = risk free rate rm - rf = risk premium for nondiversifiable risk,Chapter 15,Slide 50,Adjustments for Risk,Measuring the Nondiversifiable Risk Using the Capital Asset Pricing Model (CAPM) Calculating Risk Premium for One S
32、tock,Chapter 15,Slide 51,Adjustments for Risk,Question What is the relationship between the nondiversifiable risk and the value of the asset beta?,Chapter 15,Slide 52,Adjustments for Risk,Given beta, we can determine the correct discount rate to use in computing an assets net present value:,Chapter
33、15,Slide 53,Adjustments for Risk,Determining beta Stock Estimated statistically for each company,Chapter 15,Slide 54,Adjustments for Risk,Determining beta Factory Weighted average of expected return on the companys stock and the interest on the debt Expected return depends on beta Caution: The inves
34、tment should be typical for the company,Chapter 15,Slide 55,Investment Decisions by Consumers,Consumers face similar investment decisions when they purchase a durable good. Compare future benefits with the current purchase cost,Chapter 15,Slide 56,Benefits and Cost of Buying a Car S = value of trans
35、portation services in dollars E = total operating cost/yr Price of car is $20,000 Resale value of car is $4,000 in 6 years,Investment Decisions by Consumers,Chapter 15,Slide 57,Benefits and Cost,Investment Decisions by Consumers,Chapter 15,Slide 58,Choosing an Air Conditioner,Buying a new air condit
36、ioner involves making a trade-off. Air Conditioner A Low price and less efficient (high operating cost),Chapter 15,Slide 59,Choosing an Air Conditioner,Buying a new air conditioner involves making a trade-off. Air Conditioner B High price and more efficient Both have the same cooling power Assume an
37、 8 year life,Chapter 15,Slide 60,Choosing an Air Conditioner,Chapter 15,Slide 61,Choosing an Air Conditioner,Should you choose A or B? Depends on the discount rate If you borrow, the discount rate would be high Probably choose a less expensive and inefficient unit If you have plentiful cash, the dis
38、count rate would be low. Probably choose the more expensive unit,Chapter 15,Slide 62,Intertemporal Production Decisions-Depletable Resources,Firms production decisions often have intertemporal aspects-production today affects sales or costs in the future.,Chapter 15,Slide 63,Scenario You are given a
39、n oil well containing 1000 barrels of oil. MC and AC = $10/barrel Should you produce the oil or save it?,Intertemporal Production Decisions-Depletable Resources,Chapter 15,Slide 64,Scenario Pt = price of oil this year Pt+1 = price of oil next year C = extraction costs R = interest rate,Intertemporal
40、 Production Decisions-Depletable Resources,Chapter 15,Slide 65,Do not produce if you expect its price less its extraction cost to rise faster than the rate of interest. Extract and sell all of it if you expect price less cost to rise at less than the rate of interest. What will happen to the price o
41、f oil?,Intertemporal Production Decisions-Depletable Resources,Price of an Exhaustible Resource,Time,Price,Quantity,Price,Chapter 15,Slide 67,In a competitive market, Price - MC must rise at exactly the rate of interest. Why? How would producers react if: P - C increases faster than R? P - C increas
42、es slower than R?,Price of an Exhaustible Resource,Chapter 15,Slide 68,Notice P MC Is this a contradiction to the competitive rule that P = MC? Hint: What happens to the opportunity cost of producing an exhaustible resource?,Price of an Exhaustible Resource,Chapter 15,Slide 69,P = MC MC = extraction
43、 cost + user cost User cost = P - marginal extraction cost,Price of an Exhaustible Resource,Chapter 15,Slide 70,How would a monopolist choose their rate of production? They will produce so that marginal revenue revenue less marginal cost rises at exactly the rate of interest, or (MRt+1 - c) = (1 + R
44、)(MRt - c),Price of an Exhaustible Resource,Chapter 15,Slide 71,The monopolist is more conservationist than a competitive industry. They start out charging a higher price and deplete the resources more slowly.,Price of an Exhaustible Resource,Resource Production by a Monopolist,Chapter 15,Slide 72,H
45、ow Depletable Are Depletable Resources?,Crude oil .4 to .5 Natural gas .4 to .5 Uranium .1 to .2 Copper .2 to .3 Bauxite .05 to .2 Nickel .1 to .2 Iron Ore .1 to .2 Gold .05 to .1,Resource User Cost/Competitive Price,Chapter 15,Slide 73,The market structure and changes in market demand have had a ve
46、ry dramatic impact on resource prices over the past few decades. Question Why would oil and natural gas have such a high user cost ratio compared to the other resources?,How Depletable Are Depletable Resources?,Chapter 15,Slide 74,How Are Interest Rates Determined?,The interest rate is the price tha
47、t borrowers pay lenders to use their funds. Determined by supply and demand for loanable funds.,Chapter 15,Slide 75,Supply and Demand for Loanable Funds,Quantity of Loanable Funds,R Interest Rate,Chapter 15,Slide 76,Changes In The Equilibrium,Quantity of Loanable Funds,R Interest Rate,Chapter 15,Sli
48、de 77,Changes In The Equilibrium,Quantity of Loanable Funds,R Interest Rate,Chapter 15,Slide 78,Changes In The Equilibrium,Quantity of Loanable Funds,R Interest Rate,Chapter 15,Slide 79,A Variety of Interest Rates1) Treasury Bill Rate2) Treasury Bond Rate3) Discount Rate,How Are Interest Rates Deter
49、mined?,Chapter 15,Slide 80,A Variety of Interest Rates4) Commercial Paper Rate 5) Prime Rate6) Corporate Bond Rate,How Are Interest Rates Determined?,Chapter 15,Slide 81,Summary,A firms holding of capital is measured as a stock, but inputs of labor and raw materials are flows. When a firm makes a capital investment, it spends money now, so that it can earn profits in the future.,
