Learning some basic finance does not have to right away make your eyes glaze over. There’s one idea in certain, the time value of cash (TVM), which is a fundamental concept in everything from investing to buying that becomes more fascinating and easier to comprehend once you drop all the boring finance jargon. So to meet the difficulty, below are a couple of short descriptions, followed by 10 unanticipated (and ideally more amusing) examples of the TVM.
First Things First: What Precisely Is the TVM?
The time value of money indicates a dollar today is worth more than a dollar in the future because it can right away create interest. In finance world, if I get $1 today, I can instantly invest it to earn more money (finance world presumes there’s always some safe place to earn interest). If I waited to get my $1 until a year from now, I’d have lost out on an entire year’s worth of earning interest.
This likewise implies cash in hand today is a safe bet. It removes various other dangers, like default danger, which is when you’re guaranteed money in the future, and somebody does not pay up – such as that buddy you provided money to and who still has not paid you back.
And let us not forget opportunity costs. These are basically options you give up to do something else. When you choose to wait one year to obtain your $1, the opportunity expense is the year’s worth of lost interest that you gave up to await your $1.
So, now that you’re a financial whiz with these descriptions, here are ten means to understand the TVM without the usual finance drudgery.
1. Picking Your Lottery Payout
When I win my Powerball $500 million prize, I mean to pick the immediate money payout option instead of the 30 years of future annuity payments. Using the TVM, although I’ll at first receive less than $500 million by doing this, I’ll still get a massive sum of cash upfront, which I can invest immediately to make more. I’ll likewise have instant control of my cash today, and I’ll stay clear of the threat that the lotto commission mightn’t pay up for some reason down the road.
2. The Delicious Cupcakes in My Fridge
We’re rather obsessed with cupcakes in our home, and rationing has not worked. It’s plainly better to take your part right away. Like the TVM, this holds true for a couple of reasons. First, a cupcake today is worth more (in taste terms) than a cupcake tomorrow when it withers and the frosting solidifies. Likewise, waiting to obtain your share tomorrow threats that I’ll slip into the fridge later on this evening and consume your cupcakes, leaving you with nothing for tomorrow (cupcake default threat).
3. Designer Shoe Purchases
That remarkable pair of designer shoes is lastly on sale. You charge it to your charge card and commemorate all the way house. Nevertheless, when you don’t settle your balance till six months later on, those shoes actually cost you more. That’s the TVM at work. The 6 months of charge card interest charged by your credit card company for the ‘loan’ they advanced you to purchase the shoes gets tacked on. Pay off the balance immediately, and you will not need to pay for the time value of cash.
4. Professional Athlete Pay
Many professional athletes have pay packages that offer them a promised quantity over a set number of periods. Nevertheless, in some sports, if you get injured and miss games, you may surrender future incomes. Like the TVM, if you can secure an ahead of time amount today (such as a signing reward) instead of future payments in years to come, you’re much better off. Getting your cash today eliminates future lost earnings from injuries (like default danger) and enables you to start investing your money for the future – presuming such sportsmens would do so.
5. Dinner or Shopping
This is a chance cost comparison that essentially develops into a TVM idea. You’ve actually saved up some additional money, and because you are an outstanding budgeter, you can either invest the money heading out to supper or deciding to buy a brand-new shirt. The opportunity expense of choosing the shirt is the cost and pleasure of the supper you quit. However, gradually, that shirt can be worn again, thus making this a better option for some.
However, possibly dinner out this week is a chance for a date with your dream guy or gal. In this case, the chance expense of dinner, which corresponds to the cost of the forgone shirt and future wear, could be little compared with a lifetime of joy with what might be your future spouse or spouse (as if it were that easy!).
6. Fine Wines
While I can securely say I’m not a routine at fancy wine auctions, there are particular wines that improve with age, which may be worth a whole lot more in the future. According to WineEduction.com, a 1961 Chateau Latour initially cost $3 when it was released and can now sell for $500 at auction. Much like the TVM and that $1 earning interest, such bottles are a comparable example, even if I might never get to consume one.
7. Wimpy From Popeye
If you’ve never seen a timeless Popeye cartoon, then break out your Google equipment, due to the fact that the character of Wimpy objectifies the danger of a dollar promised tomorrow vs. getting a dollar today. Wimpy was in love with burgers, however never could pay for them. He constantly said, ‘I’ll happily pay you Tuesday for a hamburger today.’ In other words, it was highly unlikely Wimpy was really going to pay on Tuesday or any other day for that matter. Therefore, whoever offered Wimpy that burger must get his money in hand today due to the fact that Wimpy was most likely defaulting later.
8. Chore Procrastination
Here’s an interesting means to equate the TVM into daily tasks. No one likes tidying up, but you could be much better off doing it today vs. putting it off until tomorrow. The mess will only expand if left untouched over time, and you’ll have to put even more things away, scrub harder, and do a deeper clean later on. Network your inner-finance self and realize it’s like interest costs piling up. Today’s mess expands in time, gathering more dirt and scrap, which becomes an even larger mess down the road.
You have heard that working out and taking care of your body can produce a healthier future. Similar to purchasing a savings account today, which can yield interest and even more cost savings for the future, buying your body today with regular exercise can fend off injuries, prevent illness, and yield future health benefits. If you wait to begin getting into shape till you’re much older, you bypass the gathered wellness benefits of workout, just as you’d do away with any accumulated interest on your savings.
10. Mowing the Lawn
Lawn services can be costly, but perhaps you can feel less guilty with an opportunity cost contrast. It could take you one hour to trim your lawn, but a yard service can do it for a fee of $20. If you’re a freelancer and need to take an hour off from making revenue to trim, then if you make more than $20 in an hour, it’s worth having the grass service do the dirty work.
These not-so-mainstream TVM examples hopefully provide a more streamlined means to think through this essential financial principle. Finance does not need to make you run for the hills if you can think about it in practical and more fascinating terms.
Can you consider any extra examples of the TVM at play in daily life?