Corporate finance chapter 06 life cyle financial planning

Chapter 5: Life Cycle Financial Planning Objective Financial decisions in an uncertain world; Human capital, permanent income decisions over... – How much to save for retirement – Whet

Chapter 5: Life Cycle

Financial Planning

Objective

Financial decisions in an uncertain world; Human capital, permanent income

decisions over

– How much to save for retirement

– Whether to defer taxes or pay them now – Whether to get a professional Degree

– Whether to buy or rent an apartment

Labor Income and Consumption

-5000

0

5000

10000

15000

20000

25000

30000

35000

35 40 45 50 55 60 65 70 75 80

$ lab_inc

consump

Human Capital and Wealth

-100000

0

100000

200000

300000

400000

500000

600000

700000

fund HumanCap Capital

The Inter-temporal Budget

Constraint





R

t T

T

t

i

Y W

i

B i

C

1

0

i = real interest rate

R = number of years to retirement

T = number of years of remaining life

W0 = initial wealth

B = bequest

Solution by Real Conversion

75 309 ,

45

$ 208829897

8

29308

19876 3459

391816

29308

19876

* 208829897

.

8

3459

391816

















X

X PV

We are almost done All that remains is to assemble the

parts, and solve the resulting equation

Solution by Growing Annuity

• Equation









































1

1 1

1

a b a

a

r

g r

g r

X PV

Solution by Growing Annuity

j aj bj gj Xaj PVj

1 1 10 10% 35,000 ?

3 11 13 3% 15,000*1.0310 ?

 

75 45309

29308

19876 208829897

8 3459

391816

0

1 1

03 1 1 1

1 03 0

1

.

0

03 1 15000

1 1

03 1 1 1

1 03 0 1 0 1

1

15 1 1 1

1 15 0 1 0

35000 0

1 11 13 1

11 10

13 1

1

10 1

1

































































































































x

x

x PV

Year NetSalary Fees Expend Sum Account

0

1 35000 -45310 -10310 -10310

2 40250 -46669 -6419 -17760

3 46288 -48069 -1782 -21317

4 53231 -49511 3719 -19730

5 61215 -50997 10219 -11484

6 70398 -52526 17871 5239

7 80957 -54102 26855 32618

8 93101 -55725 37375 73255

9 107066 -57397 49669 130249

10 123126 -59119 64007 207281

11 -20159 -60893 -81051 146957

12 -20764 -62719 -83483 78170

13 -21386 -64601 -85987 0 StartExp 45309.75

How Much Must I Save? The Nominal Approach

79 830 ,

1

$

1 03

1

12

1 03

1

03 0 12

0 20000 1

1 1

1

1

1 1

1 1

1

0

8 0

0









































































































































X

g g

r

g r

P X

r

g P

r

g g

r

g

X PV

n

n n