Valuation Period
Refers to the interval at the end of a particular period while the value is determined for the variable investment options
What is the Valuation Period?
The valuation period is the interval at the end of a particular period while the value is determined for the variable investment options. Valuation is the calculation of a product’s value, typically done by appraisers at the end of each business day.
It is also classified as the time between the close of a first business day and the close of a second business day, during which the unit value is estimated for each investment option.
The valuation period mostly applies to investment options, retirement plans, variable annuities, and certain life insurance policies.
An annuity is an example of a retirement plan, a contract that guarantees an income stream to the investors during retirement.
Annuities provide multiple investment options, typically Mutual Funds, whose values depend on the performance of the investment option they are invested in.
They may include unlimited investment products, and investors holding them may allocate either a good part of an investment or the entire funds towards long-term investment.
These annuities can be transferred without necessarily paying taxes on gains and incomes but must pay for the transfer charges.
Despite the larger pay-outs of variable annuities contracts, they involve higher risks and volatility than the other forms of annuities valued daily.
Key Takeaways
- Valuation period is crucial for determining the value of investment options, such as annuities, and it typically occurs between the close of one business day and the close of the next.
- Market valuation periods - short-term, medium-term, and long-term - help classify investments based on their expected duration and risk levels.
- Present value (PV) and future value (FV) calculations are essential in understanding the worth of investments like annuities, considering factors like time and interest rates.
- Annuity due refers to payments made at the beginning of each period, contrasting with regular annuities where payments are typically made at the end of each period.
Classifications of Market Valuation Periods
Different valuation periods are created to help determine the realized acquisitions easily. These periods are high, neutral, or low, depending on the market’s price-to-earnings ratio of the market index.
The market price ratio removes the best straight-line feet from the price market ratio. Therefore, the market valuation can be further classified into these three categories as mentioned below:
1. Short-term valuation period
Short-term refers to a period of up to one year in which the value of an asset or investment is calculated.
This valuation period is used in everyday trading activities and in calculating the current value of short-term investments, usually made in stocks and bonds.
2. Medium-term valuation period
Medium-term is generally a valuation period between one year to five years.
This valuation period measures investments like mutual funds and exchange-traded funds for 1 year, expected to give returns a bit more than short-term investments.
3. Long-term valuation period
A long-term period means 5 years or more than 5 years for evaluating the value of an asset or investment.
This valuation period is often used to determine the value of tangible assets that are kept for a long time, like real estate, plant and machinery, infrastructure, and investments like long-term bonds.
Calculating Present and Future Values
When it comes to the valuation period of annuities and other investments, there are two calculations to keep in mind, which are present value and future value; these are explained as follows:
1. Present Value
The present value (PV) can be defined as today’s value of future payments to be made for Investment from an annuity while factoring in a specified return on investment or discount rate. And then, future cash flows are adjusted with the discount rate.
The higher the discount rate, the lower the present value of the annuity, and vice-versa. These calculations depend on the concept of the time value of money, which says that every dollar invested is now valued more after a period of time.
Example
A person can have $100,000 money today or receive $10,000 every year for the upcoming 10 years. It can be seen from the above explanation that the first option is better for the investor, and he can have a lump sum amount now and can be invested now, and it will be worth more in the future.
2. Future Value
The future value (FV) can be defined as the value of the amount invested now after a specified period.
The future value of the annuity formula is very useful when investors want to know how much money or amount they can invest today for a certain time and want to know how much return they will get in the future from this investment. FV also helps in making loan payment decisions.
Example
One investor wants to know how much his investment will be worth after 10 years from now if he invests $1,000 every year at 8% interest or $970 at 9% interest, which will be worth $14,486.56 and $14,737.14, respectively, after 10 years.
What is Annuity Due?
An annuity due is a payment required to be paid at the start of a period. It is similar to a regular annuity, where payments are often made at the end of a particular period. Still, the timing of payments is quite different in that case.
According to an annuity due, the first payment is made immediately at the start of the first period.
The rest payments are made afterward at the start of each period. So, for example, if you have taken a loan and agreed to make monthly payments of $100 for 5 years straight, with the first payment due immediately, then this would be known as an annuity due.
Annuities due are used in lease agreements where the lessee agrees to make regular payments at the beginning of each period till the period he uses the asset. They have also been used in some insurance policies and retirement savings plans where similar payment methods are used.
When calculating the present or future value of an annuity due, different formulas and tables are used compared to a regular annuity due to the timing.
Example
When a tenant is required to pay rent at the beginning of each month(rental cycle), which is here a period of payment. Another example would be a whole life annuity due, where an insurance company requires payments at the beginning of each period, just like the landlord's example.
What Is the Valuation of a Corporation?
Valuation of a corporation is a typical process conducted in the business world to help estimate the worth of a company. Valuation is typically done after analyzing various financial accounts and market data to derive the company's fair market value.
These are some methods given below:
1. Price-to-earnings method
Price-to-earnings method includes dividing the company's market stock price by the company’s earnings per share to calculate the P/E ratio. We can use this ratio later to compare it with other companies in a similar industry to evaluate a company's position and know its value.
2. Discounted cash flow method
This method includes the estimation of the company's future cash flows and afterward discounting it back to its present value with a discount rate which leaves investors with the company's present value.
3. Asset-based method
This method includes the total sum of the value of assets that the company owns, then subtracts all the liabilities to find the company's net asset value to derive the company's value.
Like every other method and process, these methods also come with advantages and limitations, and the use of these methods depends on the purpose of the company for which it is being valued.
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