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What is Time Value of Money?

The Time Value of Money is a theme for discourse and calculations related to the effect of interest on money over time, and the interrelation between Present Value and Future Value.

The Time in the equation of Rate of Return x Time x Present Value = Future Value has a value and an effect on the Future Value (or the Present Value depending on what you're solving for). The Time Value of Money is, at it's simplest, something which nearly everyone has seen but hasn't heard called by that name: turn this amount of money into that amount of money by letting it grow in the market for a length of time.

Conversely, the concept states that the value of an amount of money in the future (Future Value) can be discounted by the expected rate of return a person might receive investing the money to arrive at a Present Value (PV) which is less than the Future Value, which demonstrates that today's dollars are buying tomorrow’s dollars at a discount, when invested. Indeed, a core concept of Time Value is that a dollar in hand now is worth more than a dollar received in the future.

Without being invested, of course, the effects of inflation will devalue any amount of money between now and the future, so a specified amount of money will by default have a greater value today than it will in the future. There is also the opportunity cost of missing out on having the money to use and get utility out of now versus the future.

Passing up the chance to invest now and instead waiting until the future, say for retirement savings, will usually yield two dramatically different values given compounding interest, and this difference in Future Value is often called "the cost of waiting."

Time Value is an inherent value in options trading, and is frequently discussed given that options expire at a certain point in the future, and market prices reflect how long an option has before it expires.

What is a Time Spread?
What is Discounted Cash Flow?

Keywords: cost of waiting, discounting, compounding interest, cost basis, taxes, notional principal, investment basics, unrealized gains, inherent value,