Time Value of Money (TVM) Guide: Present Value & Future Value Formulas
Master the core Time Value of Money (TVM) mathematical framework: Present Value (PV), Future Value (FV), compounding frequencies, and annuity discounting formulas.
The Time Value of Money (TVM) states that a dollar available today is worth more than a dollar promised in the future because of its potential earning capacity. Through compounding interest, present capital expands into a greater Future Value (FV), while future cash flows must be discounted back into a lower Present Value (PV) to account for opportunity cost and inflation.
Discount Future Cash Inflows to Present Value
Input target future sums, required discount rates, and compounding intervals to evaluate present investment worth.
1. The Fundamental TVM Axiom Money has time value because: 1. **Investment Yield:** Capital invested today earns interest, dividends, or capital gains. 2. **Inflation Drag:** General price increases degrade real purchasing power over time. 3. **Counterparty Risk:** A future promise carries default risk that cash in hand does not.
2. The Core Formulas For a single lump sum:
Where: - r: Annual nominal interest or discount hurdle rate. - m: Compounding intervals per year (12 for monthly, 4 for quarterly). - t: Number of years in holding horizon.
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