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The concept of Time Value of Money (TMV) is essential part of my everday person’s life and professional life. TMV as explained by Brigham “ money in my pocket now, is worth more than it would be in the future because I have the option to invest it and earn interest. The interest earned is TMV” (2019).
In this essay I will focus on how a basic knowledge of TMV is necessary to un investments in stock to be able calculate the amount to invest, length of time and the anticipate amount of your return. It also, allows me to calculate the amount I will pay back on a loan. Understanding TMV will allow me to make better decisions regarding loans, investment and future purchases, thereby fulling funding my retirement.
I will cover the four concepts of related to TMV (Present Value (PV) of a lump sum, Future Value (FV) of a lump sum, Present Value (PV) of an annuity and Future Value (FV)) of an annuity by providing real life examples. “The time value of money concept is the basis of discounted cash flow analysis in finance” Brigham (2019).
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Present Value (PV) of a lump sum
After, receiving a $1,500.00 Class Action Settlement I decide that I should simply invest it and divide the earnings between my children for prom and graduation essential. By investing the $1,500 for 3 year at an annually interest rate is 4%., I would receive $1,333. 49 at the end of the term.
Having a basic understanding of PV allow me to make better decisions about investing. “The concept of present value is used to give a base line to which all lump sums can be discounted, this eliminates the effect of the discount rate and allows the lump sum values to be added together when carrying out time value of money calculations” Brigham (2019).
Future Value (FV) of a lump sum
“The time value of money concept in financial management is used to compare lump sum cash flows which are received or paid at different times. Calculating the present value is also called discounting” Peavler (2017).
Have a clear understanding of FV will help me to determine if investing the $1,500.00 from the Class Action Settlement is worth taking the money now or waiting the 3 years which depends on the amount of interest accumulated in the 3 years. Since my purchase is in the future, I will have more money for future purchases. Receiving 4% return, would be better the choice, I would have $1,687.30 in four years, instead of the lower $1,500 that I originally received. FV enables me to make smart decision when it comes to investments “allows me to choose the frequency that I investment’s interest or income is added to my account” Clark K.
Present Value (PV) of an annuity
When it comes to Present Value (PV) of an annuity I always related it to retirement and college saving funds. According to Peavler “for an investment today if it will generate a stream of equal, consecutive payments for a certain time period in the future, given an interest rate and a certain period of time” (2017).
My goal it to save $250 a month to help my retirement plan outside of my 401 and pension which will probably not be enough to fund my current lifestyle. By applying the logic of TMV the lump sum invested today will be worth more at the end of my 10-year investment than the incremental investments.
In a sense allowing my money investment to make more money through interest. Knowing and understanding the PV of an annuity can be useful when planning my retirement and provide a clear picture of financial future.
