Time value of money
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Time Value of Money
Time value of money is the concept that money today is worth more today than tomorrow. More specifically an identical amount of money is worth more today than the identical amount at a later point because of the money’s potential to earn money, this theory holds so long as money can earn interest.
Future Value FORMULA:
We can easily rearrange the future value formula to get the present value of money. That is, how much would you have to invest today (given you know the rate of return and time) to get a certain amount in the future.
Present Value FORMULA:
Time Value of Money FAQs
To calculate the time value of money you must apply the formula: Future Value = Present Value * (1 + (interest rate / compounding times per year))^(compounding times * length of investment).
Money is worth more today than tomorrow because the difference in time represents an opportunity cost. What could you do with cash today to make it be worth more tomorrow? This idea holds true as long as interest rates are positive. As long as interest rates are positive, at the very least you will earn some amount of interest.
The Rule of 72 tells you how long it takes to double your investment (estimate). The formula is: years to double = 72 / annual interest rate. For example, if you could earn an 11% return it would take approximately 6.5 years to double (72 / 11 = 6.54).
Future Value = Present Value * (1 + (interest rate / compounding times per year))^(compounding times * length of investment).