How do you response to the following discussion post below from a classmate. Ple
ID: 2815470 • Letter: H
Question
How do you response to the following discussion post below from a classmate. Please provide an answer and reference. Thank you in advance.
What is the relationship between Present Value and Future Value?
Present Value or PV is the amount of money needed to invest, for a given interest rate, that calculates to a goal amount (Ross, Westerfield & Jordan, 2013, p.130). Future Value or FV is the amount of money an investment becomes after a period of time (Ross, Westerfield & Jordan, 2013, p.123). FV and PV are related because FV is what a PV will become. To make this simpler, if you know what amount you want to have given an interest rate, you can us the PV formula whereas if you have a set amount of money to invest you can use the FV formula to know how much money you will have.
What are the calculations involved with PV and FV?
The FV formula is PV(1+r)t where r= interest rate and t= time periods and PV= present value (Ross, Westerfield & Jordan, 2013, p.124).
The PV formula is FV/(1+r)t where r= interest rate and t= time periods, and FV= future value (Ross, Westerfield & Jordan, 2013, p.124).
How can you apply these concepts to a personal or business situation you are familiar with – please explain and support with terms and concepts from this class material?
The FV formula is useful to calculate how much money a person could make for an investment yielding a consistent amount. For example, a $1,000 bond paying 5% interest for three years would be: 1000(1+.05)3 = $1157.63.
The PV formula would be useful for having a goal in mind of how much is needed but not knowing how much you need to invest to attain the goal. An example is to save for a vacation you know will cost $4000 and you want to go in 2 years. The same bond numbers will be used. 4000/(1+.05)2 = $3628.12.
Reference:
Ross, S. A., Westerfield, R., & Jordan, B. D. (2013). Fundamentals of corporate finance. New York: McGraw-Hill/Irwin.
Explanation / Answer
Your classmate has good understanding on the present value and future value. Though the examples he uses are little complex he can use fixed deposit or other saving account which is easier to understand . Please find my answer on this:
Relation between present value and future value: Present value gives the amount needed to invest for our future goal at a certain interest rate and future value provide what will be the future value of our present investment at certain interest rate.
Calculation for present and future value:
FV = PV * (1+r)^n
where r is interest rate
and n is number of year one should do investment.
Applicaiton of this concept:
1. A person want $100000 in his retirement account when he retires at the age of 65 and today he is 35 year old, then what amount he should invest to achieve this goal at 10% interest rate.
PV = 100000/(1.1)^25 = $9229.6
2. A person has $1000 today what will be value of this amount after 10 years at 10% interest rate.
FV= 1000 * 1.1^10 = $2593.74
The example given in discussion is correct if the bond in consideration is zero coupon bond. But for coupon bond one should take the yearly coupoun as well while determinig its present value.
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