Would you rather have $1,000,000 or the sum of a penny doubled every day for 30 days?
If you did the math, you know that the magical penny is the correct answer and by a long shot. By the end of a month, you’d have $10,737,418.24.
This is the power of compound interest. While it’s up for debate, some say Einstein called compound interest the 8th Wonder of the World.
Most of us instinctively understand that we should be saving. Your parents, the internet and all the Fidelity commercials on TV tell you to save. It can feel like a futile exercise, though. Squirreling away a small monthly sum seems as if it will never amount to anything. Compound interest, the holy grail of saving, can be as exciting as watching paint dry when you’re in the first decade of building wealth. Saving is boring.
The Rule of 72
I want to give you another powerful tool for understanding compound interest. We know that you can’t double your money everyday, but there is a rule in finance that can tell you how long it will actually take to double your money. It’s called the rule of 72.
The Rule of 72 can make saving a little more exciting. It’s pretty simple. Divide 72 by your annual rate of return on an investment and you have the amount of time it will take for that investment to double.
72 / Annual Return = Years to Double Initial Investment
For example, if you invested $10,000 today and earned 10% annually on that investment, it would be worth $20,000 in 7.2 years. That’s pretty cool. The exciting part, however, happens when you give an investment time to double 3 and 4 times. In under 22 years, that $10,000 turns into $80,000. This is how wealth is built over your life.
It Doesn't Get Exciting for Awhile
The bad part about letting your money compound is that it doesn’t get exciting for a while. In the penny example, by the third Saturday, you still only have $10,485.76. At that point, you might be kicking yourself for not taking that million upfront. But over that last 10 days, your money goes up more than 1000x. Patience pays.
The lesson here is that it takes time to grow wealth. In fact, time is probably the most important piece in this whole saving equation. That’s why it’s imperative that you begin saving early to give your money time to grow. If you wait until your 30’s or 40’s to really start saving, you might not get that last double on your money before it’s time to retire or start using your money for whatever you hope to achieve.
And as we’ve seen, it’s the last double that is the most exciting. Don’t rob yourself of a double by waiting to save.
If you'd like to talk about getting your money working for you, let's talk.
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