Question

How is the valuation of any financial asset related to future cash flows?

Short answer

Valuation of financial assets depends upon valuing the present value of future cash flows from the financial asset.

Step-by-step solution

Financial Assets

Financial assets are the instruments or medium of earning returns. Financial assets are created when investments are made with certain conditions pertaining to the maturity period and yield to maturity (also called the required rate of return).

Valuation and future cash flow

Valuation of any financial assets is basically to determine the present value of all returns from the assets at different points in time.

The returns at different points of time are called the future cash flow. So the present value of future cash flows is calculated first. Then the summation of all present values of such future flows is taken to determine the present value of any financial asset.