Differences Between Future Value and Present Value
Future Value vs Present Value
What are you worth? This is a very vague question with a very uncertain answer. However, in the field of finance and economics, your money may be exhibiting exact counted figures, but it can be less or more for its worth. “Future value” and “present value” are two terms commonly encountered in the financing and economics world. Several are eager to know how these values differ from one another. This article aims to enlighten you about “future value” and “present value” in their simplest terms. We will set aside the complex concepts which are normally focused upon by businessmen and economists.
First, let us talk about “present value.” “Present value,” as defined in economics and other online sources, “is the value on a given date of a payment or series of payments made at other times.” It is also known as “present discounted value” or “discounted value.” As far as “present value” is concerned, we cannot set aside the facts talking about a future sum of money. In investments, we are always looking for cash returns and profits we might possibly get.
When we talk about “present value,” it is the current worth of future cash flows which are at a discounted rate. The worth of future cash flows depends on the determined present value or discounted rate. If the present value is higher, most likely the present value of future cash flows will be lower. To properly give value to future cash flows, determining the appropriate discount rate plays a very vital point.
For example, if you have $1,000 at this moment, your $1,000 will increase its value in a few years from now. Why will it increase? It will increase because you can use it for your investments, and in the future you may have an additional return. The calculation of present values are extremely important for businesses because it allows investors to compare the cash flows at different times.
On the other hand, what is “future value”? “Future value,” as defined in wikipedia.org, “is the value of an asset at a specific date.” In investopedia.com, they define “future value” as “the value of an asset or cash at a specified date in the future that is equivalent in value to a specified sum today.” According to investopedia.com, there are two ways in determining future value. To find the future value for an asset with simple, annual interest, here is the equation: original investment x (1+(interest rate*number of years). The second calculation method for an asset with interest compounded annually = original Investment x (1+interest rate^number of years). An example given by investopedia is that when you invest $1,000 for 5 years with an interest rate of 10% annually, this would have a future value of $1,500. When you have invested a particular sum of money for a few years, its future value will be increased at a particular percentage depending on the interest rates.
- “Present value” is also known as “present discounted value” or “discounted value.” It is defined as the value on a given date of a payment or series of payments made at other times.
- “Future value” is defined as “the value of an asset at a specific date.” In other words, “future value” is the value of an asset or cash at a specified date in the future that is equivalent in value to a specified sum today.
- The calculation of present values is extremely important for businesses because it allows investors to compare the cash flows at different times.
- The calculation of future values gives you the estimate on how much you will gain based on the interest rates.
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