One of the trickiest aspects of evaluating money and investments is the aspect of time. Have you considered how time could impact the value of your money?
One of the trickiest aspects of evaluating money and investments is the aspect of time. Would you rather have a dollar today or in a year? Of course, you'd answer that you would want it now, but there are actually two reasons for the response.
First, having the dollar now would allow an investment with some return. Even putting the dollar in a bank account earning 1 percent would give you more money a year from now than just receiving the dollar then.
The second reason is inflation. Given that we have had steady inflation (the loss of purchasing power of the dollar) of 1 percent to 5 percent for at least 70 years suggests that a dollar will buy more stuff today than it will a year from now. Even in the event we had deflation (the dollar buys more in time), you can't go wrong just holding on the current dollar until later.
Understanding that dollars in the future are worth less than they are now is crucial to evaluating how we run our financial lives.
Any dollar not spent today and invested for the long term may indeed be worth much more in the future, assuming decent investment returns. Conversely, assuming you can live on a fixed stream of income during decades of retirement means a steadily decreasing ability to purchase the same goods (as inflation makes your dollars worth less and less).
As recently as 1980, a first class postage stamp cost 15 cents. Today it costs 49 cents. So, a dollar in 1980 is worth about three and a half dollars today. Someone retiring in 1980 would be spending almost four times as many dollars to live the same lifestyle now.
Understanding the need of your savings to grow at the rate of inflation (and after taxes) is vital to determining financial adequacy in retirement.
In some cases, the time value of money is ignored to make an investment look good. Classically, whole life insurance illustrations trumpet the fact that your money "invested" in the contract becomes much more than you actually deposited. These illustrations ignore the diminished value of the money and also do not allow a good comparison of how the money would do if invested outside the insurance contract.
Long-term investments must also take into account the likely diminished value of dollars in the future. If you buy a 30-year treasury security for $1,000, the purchasing power of the dollars you get back in three decades is likely to be reduced by two-thirds. You should hope the income you receive from the bond in the interim more than makes up for this loss.
Any time you are contemplating time and money together, keep these facts in mind.