What Is Future Value? And How To Use It For Investing

What Is Future Value? And How To Use It For Investing
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VMC: What Is Future Value? was originally published here.

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Definition of Future Value

  • It is the value of a current asset at a specific time in the future calculated based on an assumed growth rate.
  • The value of money includes time value; therefore, the future value is expected to be greater than the present value of the investment, considering the growth in investment.

What Impacts Future Value?

  • Factors such as inflation and the rate of return affect the value of money. In turn, that affects the future value of an asset.
  • The FV is calculated based on the interest earned on investments.

How To Calculate FV?

  • There are two different ways to calculate the future based on the different interests earned on an asset.
  • Simple Annual Interest Formula:

FV = I * (1 + (R * T))

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(Where FV = future value, I = initial investment, R = interest rate, and T =  investment period.)

  • Compound Annual Interest Formula:

FV = I * (1 + R)^T

(Where FV = future value, I = initial investment, R = interest rate, and T = investment period.)

Why is Future Value Important?

  • Investors use FV to estimate how much their investment today will be worth at a future date.
  • Estimating FV helps investors make critical investment decisions that check all their project requirements.
  • Investors can calculate the amount of profit that they will receive from the investments they make using FV.

FV in Practice

  • The FV in practice is not a guaranteed measure, but rather an estimate.
  • There is an underlying assumption that a rate of return is earned on the funds over the time period. In practice, interest rates can fluctuate all the time.
  • Adjustments for inflation can also impact the rate of return on investment.
  • The calculation of FV is also not always accurate; it is possible to calculate an accurate FV of an asset with a steady interest rate.
  • Assets with fluctuating interest rates require a more complex FV calculation.
  • Let’s say you have $1,000 and would like to invest it at an interest rate of 5%. How much would you have in 10 years?
  • 1,000 * (1 + 0.05) ^ 10 = $1,628.89
  • Therefore, you would have $1,628.89 in 10 years.

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