What does the formula P(1+r)^t calculate?

The formula P(1+r)^t calculates the future value of an investment or amount of money when it is subjected to compound interest. In this formula, P represents the principal amount (the initial investment), r is the interest rate per compounding period, and t is the number of compounding periods.

When applied, this formula takes into account how interest accumulates on both the initial principal and the interest that has been added to it over time. This reflects the concept of compound interest, where earnings are reinvested to generate additional earnings. As a result, over a specified time period, the growth of the original investment is well represented by the calculated future value.

Understanding this formula is crucial in finance, as it helps investors gauge how much their investments will grow over time under constant compound interest, aiding in effective financial planning and decision-making.