Discount Factor

  

If you’re dabbling in financial modeling for funzies, you’ll definitely need to know about the discount factor. The discount factor is a number you can use to multiply your cash value by in order to get the present value.

Think about it this way: you might be projecting the cash flow of your future dominatrix lemonade company (the market wants what it wants), but you realize that money in five years won’t be able to buy what it can today. Today, lemonade might cost $3, but in five years, the inflation rate might cause lemonade to cost $3.50. That means the nominal amount of $3 can buy you more today than it will buy you in the future. Like...if you went back in time, you’d be rich.

Using the discount factor, you can bring money “from the future” into today’s dollars in terms of value. The discount factor takes out the effect of inflation so that you can calculate the present value of your cash flow.

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Finance allah shmoop what is a deep discount bond d

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like down here where the whales go for a bit

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of peace and quiet Look around thirty two cents on

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the dollar twenty three cents on the dollar Ah and

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here's a twelve center peace quiet so way up there

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Yeah at the surface where the flying things hang out

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a lot you know up there that's par one hundred

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cents on the dollar crowd but down here lives the

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deep discount bond crowd and we have our own set

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of rules So who are we Well we're the shipwrecks

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the fallen overboard phone companies that didn't work where Puerto

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rico and where Greece where the failed the losers les

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miserables well this guy used to yield five percent Now

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he trades for just twenty cents on the dollar He's

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so angry because well he thinks he should be up

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there on the surface at par But no the street

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has thrown him out and well he sank No michael

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phelps there they don't believe that newspapers on paper are

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ever going to be a thing again So ironically they

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don't even want his paper sad while he thinks he's

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a big bargain He's Still paying his coupon five cents

01:15

on the hundred cents on the dollar schedule five percent

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Yeah only now you khun by that five cents a

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year for one fifth of the price Twenty cents That's

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right twenty cents for a dollar of par or you

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get five times the yield Yep five times five percent

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yield or twenty five percent When you're buying that one

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hundred cents on the dollar our value for only twenty

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cents Yeah crazy high yield if he pays if it

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continues to yield the alec he may stop We don't

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know Well oops Here comes another Who a ten cent

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on the dollar ouch coupon here is six percent So

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the yield well if it pays is now sixty percent

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crazy crazy high and clearly nobody believes the coupons going

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sun shining land of par Don't think about appreciation meaning

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that well let's say that sears reinvents itself and becomes

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a coffee selling kid love an amusement park and the

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ten cent on the dollar bonds which paid sixty percent

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Yield Now Yeah here's the math Well what happens if

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you've made your interest of course but you'll also make

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invested a dime and go back to pa ra tha

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