R Tutorial : Actuarial equivalence
Key Takeaways
Explains actuarial equivalence using R
Original Description
Want to learn more? Take the full course at https://learn.datacamp.com/courses/valuation-of-life-insurance-products-in-r at your own pace. More than a video, you'll learn hands-on coding & quickly apply skills to your daily work.
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How can you use the time value of money concept for calculations that are relevant in everyday life? That's what you will learn in this video. You will meet a superhero and help him with his car loan. Off we go!
Many of the transactions discussed in this course require you to establish an equivalence between two cash flow vectors.
A first example is a loan or a mortgage, for instance, to buy a house. In such an agreement you receive a lump sum of cash from the bank and - in return - you pay back the capital with monthly payments. To calculate these monthly mortgage payments you establish an equivalence relationship between the borrowed capital and the series of mortgage payments.
A second example is an insurance product. Such a product requires an equivalence between the benefits covered by the insurance and the series of premium payments. To calculate these premiums, later on in the course, you will use the exact same concept of equivalence between cash flow vectors.
Please meet Mr. Incredible, an independent superhero living and working in Belgium. He needs a new car worth 20,000 euros.
Mr. Incredible wants to borrow this amount from the bank.
He will pay back the loan with 4 yearly, constant payments equal to, say, K. Mr Incredible will pay his first loan payment at the end of the first year.
The bank will determine an interest rate, covering the interest the bank wishes to receive in return for the 20,000 euro borrowed to our superhero. Can you calculate what the loan payment K should be?
The cash flow from the bank to our superhero is very simple. 20 000 at time 0, allowing Mr. Incredible to buy the car.
The cash flow from the superhero to the bank is 0 at time 0, since his first loan payment is at the end of the first year
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