FINANCIAL OPERATIONS 2025/2026

Int Bach Degree in Management and Business Administration

Int Double Bach Degree in Economics, Management and Business Administration

SECOND PART
ANNUITIES VALUATION
Bibliography
Córdoba-Bueno, M. (2010) "Fundaments and Practices of Financial Mathematics", 2nd
Edition. Ed.: Dykinson.
De Pablo López, A. (2002) "Valoración Financiera" Editorial Centro de Estudios Ramón
Areces

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CHAPTER 1 CONSTANT ANNUITIES

1. CONCEPT

An annuity is a bunch of structured payments or capitals (or cash-flows) made

regularly in different times, in such a way that in each time, there is a capital. Each capital
corresponds to a time interval or maturity period.

All annuity has a cause or justification that grants the recipient the right to receive
it (source of the annuity). For example:

- Monthly salary at the end of each month that an employee will receive over the next
five years; the source of income is the employment contract and the maturity periods
are each of the months worked
- Rent for commercial states with a ten-year contract, payable at the beginning of each
quarter
- More examples: retirement pension, company profits, etc.
- Can you think of any others? ________________________________________

The graphical representation of an annuity is:

C1 C2 Cs Cn-1 Cn

t0 t1 t2 ts tn-1 tn

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In every annuity there is the following elements:

- Origin → “t0”; the beginning of the first maturity period

- End → “tn”; where the last maturity period concludes

* The origin and end of annuity do not necessarily have to coincide with the moment in
time when the first and last capital are located

- Duration → the time difference between the end and the origin

A more formal definition is as follows: Given a set of capitals (C1; t1); (C2; t2); (C3;
t3); ….; (Cn; tn) and a total time period [t0; tn] divided in subperiods (maturity periods) [t0;
t1]; (t1; t2]; (t2; t3]; ….; (tn-1; tn], we say that an annuity is the mathematical function that
relates the set of capitals and the set of maturities. The maturity periods are consecutive;
together they form the total interval.

Capitals Maturity Periods

(C1; t1)  [t0; t1]

(C2; t2)  (t1; t2]

……………………………………………………………

(Cn; tn)  (tn-1; tn]

Let`s compare:

Graphical representation 1)

C1 C2 Cs Cn-1 Cn

t0 t1 t2 ts-1 ts tn-2 tn-1 tn

Graphical representation 2)

C1 C2 Cs Cn-1 Cn

t0 t1 t2 ts-1 ts tn-2 tn-1 tn

In both cases, the origin is t0 and the end is tn.

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Annuities generally have a long duration and are therefore valued using compound
financial rules. The capital value or financial value of an annuity at a given time α is a
capital amount whose value is the financial sum of the annuity’s capitals.

Graphically, if we consider the moment of valuation α = t0

C1 C2 Cs Cn-1 Cn

α t1 t2 ts-1 ts tn-2 tn-1 tn

The financial value of the annuity is:

𝑉 = 𝐶 ∗ (1 + 𝑖) + 𝐶 ∗ (1 + 𝑖) + ⋯ + 𝐶 ∗ (1 + 𝑖)

Particular cases:

- If α = t0  Vα =V0  Present/Actual Value

- If α = tn  Vα =Vn  Future Value

Two annuities R1 and R2 are financially equivalent when, valuated under the same
financial rule, provide the same value at any period of time.

R1 ~ R2  𝑉 = 𝑉 for any α

From the point of view of the financial valuation of annuities, some properties are
fulfilled:

- The capital is lineally proportional to the terms of the annuity

- Additive property (referred to the time)
- Substitution of an annuity by another one with a lesser number of capitals

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2. CLASSIFICATION

From a perspective that facilitates their study and valuation, income can be classified
as:

1. According to the amount of capitals

- Constant annuities → the ones in which all the capitals have the same amount
C1 = C2 = … = Cn = C
- Variable annuities → the ones in which the capitals have different amounts; the
amounts may follow some formation rule

2. According to annuities maturity

- Temporary annuities → the ones which have a known maturity, after which
there are no more capitals; finite duration
- Perpetuals → the ones which have no maturity; infinite duration

3. According to the time of capitals

- Annuities with uniform periods → the ones in which every maturity period have
the same duration
- Annuities with variable periods → maturity periods have different duration

4. According to the moment of the interval in which capitals are placed

- Postpayable annuities (“ordinary”) → the capitals are required at the end of

each maturity period
- Prepayable annuities (“due”) → the capitals are required at the beginning of
each maturity period

5. On the basis of the moment at which the valuation is made

- Immediate annuities → when the valuation moment α is located within the

interval [t0, tn]

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- Deferred annuities → when the annuity is valued at some point prior to its origin
(α < t0)
- Advanced (or anticipated) annuities → when the income is valued at some point
after its end (α > tn)

6. According to the certainty of capitals

- Certain annuities → the ones in which the capitals depend only on times in which
they are place
- Uncertain annuities → the ones in which we do not know certainly if the capitals
will take place, when they will take place, and what is the amount, supposed they take
place

3. CONSTANT AND IMMEDIATE ANNUITIES

Let's demonstrate the equation for each type of income. It is recommended to follow
these steps:

1. Graphically represent the annuity

2. Financially sum the amounts equivalent to the capital at the moment of valuation

3. Find the common factor, if any

4. Use the geometric progression formula

5. Modify the denominator

6. Continue with the demonstration

3.1. TEMPORARY AND POSPAYABLE

A capital is allocated at the end of each maturity period for n periods. Its graphical
scheme is represented in the following figure:

C C C C C

t0 t1 t2 ts-1 ts tn-2 tn-1 tn

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Actual Value V0 → α = t0

The actual value of this annuity is obtained by adding the equivalent amounts at
moment 0 (origin) to each of the capitals that make up the annuity.

C C C C

0 1 2 s n

V = C ∗ (1 + i) + C ∗ (1 + i) + ⋯ + C ∗ (1 + i) + ⋯ + C ∗ (1 + i)

It is a sum of terms in geometric progression.

Note: S = a + a*r + … + a*rn-1 =a*

If we adapt this formula to the case at hand, we have that:

a = first addend of this progression

r = common ratio of this progression (each addend is equal to the previous one multiplied
by (1 + i)
n = number of addends or duration of the annuity

1 − (1 + 𝑖)
V = C ∗ (1 + i) ∗
1 − (1 + 𝑖)

If we express the denominator in the following way:

1 1+𝑖−1 𝑖
1 − (1 + i) = 1− = = = 𝑖 ∗ (1 + 𝑖)
1+𝑖 1+𝑖 1+𝑖

Substituting in the previous equation:

( )
V = C ∗ (1 + i) ∗ ∗( )

1 − (1 + 𝑖)
V = C∗
𝑖

( )
Note: the factor is called 𝑎 ¬

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Final Value Vn → α = tn

In the same way, the final value of this annuity is obtained by adding the equivalent
amounts at moment n (end) to each of the capitals that make up the annuity.

Alternative 1) All capitals directly to n

C C C C

0 1 2 s n

Alternative 2) Take advantage of the previous demonstration

C C C C

0 1 2 s n

V = C ∗ (1 + i) ∗ (1 + 𝑖) + C ∗ (1 + i) ∗ (1 + 𝑖) + ⋯ + C ∗ (1 + i) ∗ (1 + 𝑖)

V = (1 + 𝑖) ∗ [C ∗ (1 + i) + C ∗ (1 + i) + ⋯ + C ∗ (1 + i) + C ∗ (1 + i) ]

The actual value and the final value of the annuity are equivalent capitals, since they
measure the same thing: the value of the annuity, at two different points in time.
Therefore, once one of the values is known, the other can be obtained.

V = (1 + 𝑖) ∗ 𝑉 or V = (1 + 𝑖) ∗ 𝑉

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3.2. TEMPORARY AND PREPAYABLE

Actual Value V0 → α = t0

A capital is allocated at the begging of each maturity period for n periods. Its
graphical scheme is represented in the following figure:

C C C C C

0 1 2 s n-1 n

The actual value of this annuity is obtained by adding the equivalent amounts at
moment 0 (origin) to each of the capitals that make up the annuity.

( )
V = C + C ∗ (1 + 𝑖) + 𝐶 ∗ (1 + 𝑖) + ⋯ + 𝐶 ∗ (1 + 𝑖)

It is a sum of terms in geometric progression. If we adapt this formula to the case at

hand, we have that:
( ) ( )
V = C∗ ( )
=C∗ ∗( )

1 − (1 + 𝑖)
V = C∗ ∗ (1 + 𝑖)
𝑖

The value of a prepayable income is obtained by multiplying the corresponding

value of the pospayable income by (1 + i). Therefore, if pospayable income is valued
correctly, the value of prepayable income is obtained simply by using the (1 + i) operator.

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Int Double Bach Degree in Economics, Management and Business Administration

** Demonstrates the final value of a constant, immediate, temporary and

prepayable annuity _______________________________________________________

3.3. PERPETUAL AND POSPAYABLE

Actual Value V0 → α = t0

A capital is allocated at the end of each maturity period for infinite periods. The
actual value of this annuity is obtained by adding the equivalent amounts at moment 0
(origin) to each of the capitals that make up the annuity.

Its graphical scheme is represented in the following figure:

C C C C

0 1 2 s ∞

V = C ∗ (1 + i) + C ∗ (1 + i) + ⋯ . + C ∗ (1 + i) + ⋯ + C ∗ (1 + i)

It is a sum of terms in geometric progression. If we adapt this formula to the case at

hand, we have that:
( )
V = C ∗ (1 + i) ∗ ∗( )
; considering the limit as n tends to infinity

𝐶
V =
𝑖

In perpetual annuities it makes no sense to talk about final value because the duration
is infinite.

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3.4. PERPETUAL AND PREPAYABLE

** Demonstration __________________________________________________

4. CONSTANT AND DEFERRED ANNUITIES

4.1. TEMPORARY AND POSPAYABLE

A capital is allocated at the end of each maturity period for n periods. However, we
now value the annuity at a time prior to its origin (the point where the first maturity period
associated with the first capital begins). Its graphical scheme is represented in the
following figure:

C C C

0 d d+1 d+2 d+n

deferral period

Moment 0 = α = Moment of valuation

Moment d = origin of the annuity

Moment d+n = end of the annuity

Duration of the annuity = (d+n) – d = n = number of capitals

Actual Value V0

The actual value of this annuity is obtained by adding the equivalent amounts at
moment 0 (prior to the origin) to each of the capitals that make up the annuity.

C C C

0 d d+1 d+2 d+n

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V = C ∗ (1 + i) ∗ (1 + i) + C ∗ (1 + i) ∗ (1 + i) + ⋯ + C ∗ (1 + i) ∗ (1 + i)

V = (1 + i) ∗ [C ∗ (1 + i) + C ∗ (1 + i) + ⋯ + C ∗ (1 + i) ]

( )
V = C∗ * (1 + i)

If it is valued at time d, the actual value of an immediate annuity is obtained. This

amount must be transferred to moment 0, for which it is multiplied by the factor
(1 + i) . Thus,

V 𝑑𝑒𝑓𝑒𝑟𝑟𝑒𝑑 𝑎𝑛𝑛𝑢𝑖𝑡𝑦 = V 𝑖𝑚𝑚𝑒𝑑𝑖𝑎𝑡𝑒 𝑎𝑛𝑛𝑢𝑖𝑡𝑦 ∗ (1 + i)

The deferral does not modify the final value, since in d+n the annuity is immediate.

4.2. TEMPORARY AND PREPAYABLE

** Demonstration ___________________________

4.3. PERPETUAL AND POSPAYABLE

** Demonstration ___________________________

4.3. PERPETUAL AND PREPAYABLE

** Demonstration ___________________________

5. CONSTANT AND ADVANCED ANNUITIES

In advanced annuities, the actual value is not affected. In other words, the
anticipation period does not affect the actual value because at moment 0 the annuity is
immediate. Furthermore, there cannot be perpetual and advanced annuities.

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5.1. TEMPORARY AND POSPAYABLE

A capital is allocated at the end of each maturity period for n periods. However, we
now value the annuity at a moment after its end (the point where the last maturity period
associated with the last capital ends). Its graphical scheme is represented in the following
figure:

C C C

0 1 2 n n+k

anticipation period

Moment 0 = origin of the annuity

Moment n = end of the annuity

Moment n+k = moment of valuation

Duration of the annuity = n - 0 = n = number of capitals

Final Value Vn

The final value of this annuity is obtained by adding the equivalent amounts at
moment k+n (after the end) to each of the capitals that make up the annuity.

C C C

0 1 2 n n+k

V = C ∗ (1 + i) ∗ (1 + i) ∗ (1 + 𝑖) + C ∗ (1 + i) ∗ (1 + i) ∗ (1 + 𝑖) + ⋯ + C ∗
(1 + i) ∗ (1 + i) ∗ (1 + 𝑖)

V = (1 + i) ∗ (1 + i) ∗ [C ∗ (1 + i) + C ∗ (1 + i) + ⋯ + C ∗ (1 + i) ]

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( )
V = C∗ * (1 + 𝑖) ∗ (1 + 𝑖)

As conclusion,

V 𝑎𝑑𝑣𝑎𝑛𝑐𝑒𝑑 𝑎𝑛𝑛𝑢𝑖𝑡𝑦 = V 𝑖𝑚𝑚𝑒𝑑𝑖𝑎𝑡𝑒 𝑎𝑛𝑛𝑢𝑖𝑡𝑦 ∗ (1 + i)

or

V 𝑎𝑑𝑣𝑎𝑛𝑐𝑒𝑑 𝑎𝑛𝑛𝑢𝑖𝑡𝑦 = V 𝑖𝑚𝑚𝑒𝑑𝑖𝑎𝑡𝑒 𝑎𝑛𝑛𝑢𝑖𝑡𝑦 ∗ (1 + i) ∗ (1 + i)

5.2. TEMPORARY AND PREPAYABLE

** Demonstration ___________________________

CHAPTER 2 VARIABLE ANNUITIES

1. GENERAL CASE

The amounts of the capital vary, and their variation does not follow any known rule.
In the case of the actual value of a temporary, immediate and pospayable annuity:

C1 C2 Cs Cn

0 1 2 s n

V = 𝐶 ∗ (1 + i) + 𝐶 ∗ (1 + i) + ⋯ + 𝐶 ∗ (1 + i) + ⋯ + 𝐶 ∗ (1 + i)

These expressions cannot be simplified because there is no known rule for forming
the amounts; it is necessary to transfer the capitals one by one up to the moment of
valuation and then add them together.

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2. ANNUITIES IN GEOMETRIC PROGRESSION

In these annuities, each capital is obtained from the previous one by multiplying it
by a number q, which is called the common ratio. The common ratio must be positive
(q>0). When q>1, the terms increase, and when q<1, the terms decrease.

Note: in equations, q = 1+ %

2.1. TEMPORARY AND POSPAYABLE

Actual Value V0 → α = 0

To obtain the actual value, these capitals are valued at the origin and then added
together.

C C*q C*qs-1 C*qn-1

0 1 2 s n

V = C ∗ (1 + i) + C ∗ 𝑞 ∗ (1 + i) +⋯ + C∗𝑞 ∗ (1 + i) + ⋯+ C ∗ 𝑞 ∗ (1 + i)

It is a sum of terms in geometric progression. If we adapt this formula to the case at

hand, we have that:

a = C ∗ (1 + i)
r = q * (1 + i)
1 − 𝑞 ∗ (1 + 𝑖)
V = C ∗ (1 + i) ∗
1 − 𝑞 ∗ (1 + 𝑖)

If we express the denominator in the following way:

𝑞 1+𝑖−𝑞
1 − q ∗ (1 + i) = 1− = = (1 + 𝑖) ∗ (1 + 𝑖 − 𝑞)
1+𝑖 1+𝑖

Substituting in the previous equation:

( )
V = C ∗ (1 + i) ∗ ( ) ∗( )

1 − 𝑞 (1 + 𝑖)
V = C∗
1+𝑖−𝑞

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Let’s think:

*** If q=1? ______________________________

*** If q = 1+i? ___________________________

*** Final value? __________________________

2.2. TEMPORARY AND PREPAYABLE

*** Let’s think

2.3. PERPETUAL AND POSPAYABLE

*** Let’s think

2.4. PERPETUAL AND PREPAYABLE

*** Let’s think

2.5. DEFERRED AND ADVANCED ANNUITIES

*** Let’s think

3. ANNUITIES IN ARITHMETIC PROGRESSION

In these annuities, each term is obtained as a function of the previous one by adding
a constant amount d, called the common ratio. The ratio can be positive or negative; if it
is negative, the only condition that must be met is that the last term of the annuitiy must
be positive.

3.1. TEMPORARY AND POSPAYABLE

Actual Value V0 → α = 0

To obtain the actual value, these capitals are valued at the origin and then added
together.

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C C+d C+(s-1) *d C+(n-1) *d

0 1 2 s n

V = C ∗ (1 + i) + (C+𝑑) ∗ (1 + i) + ⋯ + (C + (n − 1) ∗ d) ∗ (1 + i)

The demonstration is not continued.

*** Final value? __________________________

3.2. TEMPORARY AND PREPAYABLE

*** Let’s think

3.3. PERPETUAL AND POSPAYABLE

*** Let’s think

3.4. PERPETUAL AND PREPAYABLE

*** Let’s think

3.5. DEFERRED AND ADVANCED ANNUITIES

*** Let’s think

4. ANNUITIES VALUED AT MORE THAN ONE RATE i

Until now, annuity has been valued in compound capitalization with a single rate i,
but sometimes more than one rate is used, each of which is applied to a specific annuity
segment. For example, the actual value of a temporary, immediate and pospayable
annuity:

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C1 C2 Cs Cs+1 Cn

0 1 2 s s+1 n

………………..i1………………… ……………..i2……………..

𝑉 = 𝐶 ∗ (1 + 𝑖 ) + 𝐶 ∗ (1 + 𝑖 ) + ⋯ + 𝐶 ∗ (1 + 𝑖 ) +𝐶 ∗ (1 + 𝑖 )
( )
∗ (1 + 𝑖 ) + ⋯ + 𝐶 ∗ (1 + 𝑖 ) ∗ (1 + 𝑖 )

In the particular case where the amounts are constants:

C C C C C

0 1 2 s s+1 n

………………..i1………………… ……………..i2……………..

( )
1 − (1 + 𝑖 ) 1 − (1 + 𝑖 )
𝑉 =𝐶∗ +𝐶∗ ∗ (1 + 𝑖 )
𝑖 𝑖

The second part of the annuity is deferred for s periods, but the deferral is valued at
the rate i1.

Let’s think: what happens to the capital located in s?

Compare:

C1 C2 Cs Cs+1 Cs+2 Cn

0 1 2 s-1 s s+1 n-1 n

………………..i1………………… ……………..i2……………..

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