Time Value Of Money

Time Value of Money

M. Scott Peck once said, "Until you value yourself, you will not value your time. Until you value your time, you will not do anything with it." (2006). In the next paragraphs as the unveiling of a financial scenario occurs, one will see the importance in time value of money and the effects caused by the influence of annuities. In addition, while exploring the concept of annuities, one will notice other factors. Factors such as, interest rates, present and future value and the rule of 72; which ultimately contribute to the impact in time value of money.

The best and easiest way in explaining the importance in time value of money is the scenario where by pretense that one has won the lottery. The scenario retrieved from investopedia.com and written by Shauna Croome denotes, "Congratulations!!! You have won a cash prize! You have two payment options: a) Receive $10,000 dollars now. Or b) Receive $10,000 dollars in three years...which option would you choose?" (2003). I would probably choose option a, of receiving the money now. Granted, it may not be the smartest response, but I think is the feeling of having the money in my hands what influences my decision. Economist would agree with my decision, not because of my answer. But because one could invest this money and earn interest on it. Smart decisions, would procure the process of analyzing different investment activities. Investing for a single period. More than one period. Investing on payment options or annuities.

First, one must consider future value. "Future Value (FV) refers to the value of an asset or cash at a specified date in the future that is equivalent in value to a specified sum today or Present Value." Investopedia.com (n.d.). When investing for a single period, as one uses the numbers from the scenario stated at the beginning,

Suppose you invest the $10,000 dollars earned from the lottery in a savings account which pays 10% interest per year.

Present Value Interest Period =

10000 .10 1 11000

The above table illustrates that one will have $11,000 dollars. This amount equal to the present value of $10,000 dollars plus $1,000 dollars in interest. Resulting that $10,000 today is worth $11,000 dollars in one year, given that the interest rate is 10%.

As one continues with evaluating the different investment opportunities, when investing for more than one period, one must consider that the present value has grown to $11,000 dollars. If one continues to keep the money in the bank, what will the future value of the home assuming the interest rate remains the same?

Present Value Interest Rate Period =

11,000 .10 1 12,100

The table above illustrates an earning of $1,100 dollars in interest after the second year. This $12,100 dollars is the future value of $10,000 dollars in two years at 10%, hence resulting on investing for more than one period.

When looking into payment options or annuities, according to Gregory A. Kuhlemeyer, Ph.D. "Annuities represent a series of equal payments or receipts occurring over specified number of equidistant periods." (2004). Assuming now that one makes annual deposits of $1,000 dollars deposited at the end of the year earning 10% interest for the next three years.

Year 1 $1,000 dollars deposited at the end of year = $1,000

Year 2 $1,000 x .10 = $ 100+ $1,000 + $1,000 = $2,100

Year 3 $2,100 x .10 = $ 210+ 2,100 + 1,000 = $3,310

The above table displays that during the first year, due