What is the Time Value of Money (TVM) and how does it impact my investment?

The Time Value of Money (TVM) refers to situations involving the exchange of something of value (money) at separate points in time. Basically all investments relate back to the exchange of money at a certain point in time for the rights to the future capital associated with that investment. In very simple terms, the TVM proves the idea that a dollar today is worth more than that same dollar amount tomorrow; it shows the impact that time has on money.

For example:

Say you are considering putting $10,000 dollars into a savings account today that would earn 3% interest.

  • In 1 year that $10,000 dollars would be worth $10,300.00
  • In 5 years that $10,000 dollars would be worth $11,592.74
  • In 10 years that $10,000 dollars would be worth $13,439.16
  • In 20 years that $10,000 dollars would be worth $18,061.11

As you can see above, because interest (earned in one year) continues to earn interest (later years), your original investment grows by just letting the TVM work its course. This is a very basic example, but it shows the importance of the TVM and how it can impact your investment.

So remember, take advantage of time! The more you invest now, the more that investment will grow in the future.

If you would like to see more real life examples schedule a “Steps Toward Investing” workshop with the Financial Wellness Peer Educators where we can talk more about the effects the TVM can have on a portfolio or retirement account. You can also schedule a one-on-one appointment with a peer educator by emailing financial.wellnessuie@gmail.com.

Written by Brandon Wyeth, Financial Wellness Peer Educator, University of Illinois Extension, 2017.

Reviewed by Kathy Sweedler, Consumer Economics Educator, University of Illinois Extension.

When should I start investing?

The right answer to that question is simple: right now. Okay, you might not be ready to invest right this second, but that doesn’t mean that you can’t start planning today. The reason why timing is so important is because of something called compound interest. There is a famous saying that goes: “Compound interest is the eighth wonder of the world. He who understands it, earns it … he who doesn’t … pays it”. Since Albert Einstein is arguably one of the greatest minds in human history, his quote might be worth adhering to.

Compound interest is the process of adding interest to the initial investment including interest that’s already been earned. In other words, compound interest allows you to earn interest on interest, and over time this can make a real impact on the returns of your investments. If you’re planning on investing in stocks, they won’t be earning interest per se, but they’ll be earning returns such as dividends and (stock) growth. Then as long as you don’t withdraw what you’ve accumulated, and allow that to be automatically reinvested, you’ll experience compounding returns.

A quick example of this would be as follows: you have $100 in two separate accounts that both offer 10% returns on your investment, and you keep the money in there for 10 years. The only difference is that one account gives you compound interest but one doesn’t. At the end of the 10 years, the account with the compound interest will have $271.79 in it. And the other account? Only $200. Compound interest really makes a difference.

Furthermore, as a young investor you’ll already be ahead of all of those who started investing later than you because you’ll have had a chance to let your money work for you for longer than others have. Young investors also have another advantage, which is safety. Investing funds that are left over after paying bills, etc, allows you to keep a clear head if your positions lose value, as you’ll have plenty of time to wait until the market makes a comeback. Though it is important to remember that one should only invest once they’ve saved up enough money for an emergency saving fund, to reduce risk in case anything goes wrong. All in all, start planning on putting your savings to work now, and you’ll be glad you did in the future. Then 10 years from now when others say that they wished they started investing years ago, you’ll already be ahead of the game. Also, check out our website to access more resources on investing and finances in general.

Written by Robert Sniezko, Financial Wellness Peer Educator, University of Illinois Extension, 2017.

Reviewed by Kathy Sweedler, Consumer Economics Educator, University of Illinois Extension.