Future value is defined as the value of an asset in the future at a specifies time.
It is totally based upon the assumed rate of growth.
A $50,000 investment invested today can result in $ 10,000,000 after 20 years if the growth rate is guaranteed.
Hence , the future value of $50,000 investment is $10,000,000.
Future Value Explanation
Calculation of future value helps the investors to predict the amount of profit that can be generated on their principal amount invested, with high accuracy.
The amount of growth generated via cash differentiates from the amount invested in stocks or bonds. Thus, the equation of future value is used to compare the differences among the options.
Depending on the type of asset, determining future value can become complicated sometimes.
Moreover, the future value is easy to calculate if money is invested with a guaranteed interest rate such as a savings bank account.
Although stock market investments with the comparable high volatile rate of return can generate greater difficulties. Therefore, examples of FV (future value) calculation serves an easy method in understanding its core concept.
Future Value Explanation using formulae
Depending on the kind of interest being earned future value can be calculated in the following way.
When the Investment is earning Simple Interest
FV = I * [1 + (R * T)]
- I is the initial investment amount or the principal amount
- R is the interest rate on the principal amount
- T is the number of years the investment will be held.
Let’s take an example, suppose $1,000 investment is held for 5 years with 10% simple interest annually being paid . Hence , the future value for investment then becomes $1,000 * [1 + (0.10 * 5)], or $1,500.
Hence, for calculating the FV of an investment earned via compound interest becomes
FV = I * [(1 + R)^T]
Referring to the above example again, the same $1000 investment over a period of 5 years with a 10% compound interest rate would have a Future value of $1,000 * [(1 + 0.10)5], or $1,610.51.
It is assumed that with simple interest the interest rate is earned only on the basis of initial investment, while with compound interest the interest rate is applicable to every cumulative account balance individually.
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