Valuation using forward rates, Financial Management

Assignment Help:

We can discount cash flows either by using spot rates or forward rates, because a spot rate is simply a package of short-term forward rates. Assume that the cash flow of period T is $1; then, the present value of the cash flow using the spot rate for period T will be as follows:

         PV of $1 in M periods = 1891_valuation using forward rate.png

We know that,

         yT = [(1 + y1) (1 + 1f1) (1 + 1f2) (1 + 1f3) ..... (1 + 1fT-1)]1/ T - 1

Adding 1 on both sides of the equations,

         (1 + yT)  = [(1 + y1) (1 + 1f1) (1 + 1f2) (1 + 1f3) ..... (1 + 1fT - 1)]1/ T

Raising both sides of the equations to the T-th power, we get:

         (1 + yT)T = [(1 + y1) (1 + 1f1) (1 + 1f2) (1 + 1f3) ..... (1 + 1fT - 1)]

The present value of X1 in M periods can be determined by substituting the value calculated in the above step into the present value formula.

         PV of X1 M periods =680_valuation using forward rate1.png

The present value of Rs.1 in T period is called the forward discount factor for period T.


Related Discussions:- Valuation using forward rates

Rectification of errors, What is rectification of errors? List and explain ...

What is rectification of errors? List and explain the stages where the errors are deducted for rectification.

Total return for a mortgage-backed and asset-backed security, The ...

The total return in case of mortgage-backed and asset-backed securities depend on the projected principal repayment and the interest earned on r

State a process for benchmarking, State a process for benchmarking 1.  ...

State a process for benchmarking 1.  Gain senior management commitment to establish benchmarking as a process within the organisation and educate stakeholders and staff about t

A-/a3, This is usually the third- or fourth-highest rating that a rating ag...

This is usually the third- or fourth-highest rating that a rating agency allocates to a security or insurance carrier. It is frequently the lowest investment-grade rating, but it i

Process of securitization, Steps involved in the Process of S...

Steps involved in the Process of Securitization The following are the major steps involved: The lender (also called the originator) - in th

Sensex, What is Financial index & commodity index? Method of index uses in ...

What is Financial index & commodity index? Method of index uses in calculation? Weighted average method? How to calculate index?

Price-output determination under monopoly, The potato chip industry in the ...

The potato chip industry in the Northwest in 2007 was competitively structured and in long-run competitive equilibrium; firms were earning a normal rate of return and were competin

Expalin the term company objectives, Expalin the term Company Objectives ...

Expalin the term Company Objectives Financial management is anxious with making decisions about the provision and use of a firm's finances. A rational method to decision-making

Determine the weighted average cost of capital, To evaluate a company using...

To evaluate a company using enterprise discounted cash flow (DCF), we discount free cash flow by the weighted average cost of capital (WACC). The weighted average cost of capital r

Capital budgeting, #how to calculate initial investment cash flows ..

#how to calculate initial investment cash flows ..

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd