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

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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