THE MAGIC OF COMPOUND INTEREST
Each of us wants to get rich in order to fulfill our dreams: to fly around the world, buy a car or a house, and maybe even buy a plane.
Investing can help make a dream come true, but not everyone has enough knowledge to make money trading.
And what to do?
Capitalization magic increases numbers to high values very quickly. Naturally, it also works with money, but a little slower. This is called compound interest, and that's what we can use now, no matter how deeply you understand investments.
The most frequent advice in the financial sphere is to accumulate your funds and invest them as early as possible. When you start accumulating as early as possible, time is on your side, and the accrual of compound interest plays a big role in this. The best way to demonstrate compound interest in action is the following example.
There is Louis and Jen, both 20 years old. They are given the opportunity to make a long-term investment with a starting capital of $ 5,000 at 10% per annum for the next 45 years. And they have to make a choice:
1. Annually collect the earned interest or
2. Reinvest interest income annually.
Louis likes to get paid. He already has ideas on how to spend the first interest payment. However, Jen is looking to the future. She decides to reinvest them.
Louis invests his funds and receives the same income of $500 every year.
Louis is happy to take his $500 every year. After 45 years, nothing changes for him. He still has his original $5,000 and 45 years of interest spent.
The power of capitalization
Jen is obsessed with savings. She knows that over time, interest will bring her much more money.
The first few years of capitalization are pretty boring, but Jen waits patiently, because every year her interest income is higher than in the previous one. Little by little, but the snowball effect is gaining momentum.
Around the ninth year, the picture becomes fascinating. Jen gets enough interest income to double her first deposit. Soon, the interest income exceeds her initial investment amount of $5,000. And she gets a percentage of her interest. This is the power of compound interest.
Imagine what Jen could have done if she had invested $5,000 in work every year for the same period of time. Currently, 10% look too optimistic, but let's take, for example, that she earned 6% annually on this money. At this interest rate, Jen's total income would be $1,196,363 (by the way, at a rate of 10%, her total income would be $4,318,429).
Rule 72
Rule 72 is a simple way to estimate the time required to double an investment based on a fixed rate of return. If you divide 72 by the rate of return, you get an approximate number of years during which the investment will double.
For example: if you invested $ 1000 at 4% per annum, then in order to turn your investment into $ 2000, you will need about 18 years (72/4 = 18).
Using this formula, you can also determine the rate of return needed to double your money in 10 years: divide 72 by the number of years, 72/10 = 7.2%.
Regardless of the investment instrument, whether it's bond yields or dividends, Rule 72 gives you an idea of how long it takes to double your money at a given interest rate.
Don't let it work against you!
No matter how good capitalization looks, there are 4 factors that weaken it and work against you:
• Inflation. There are ways to avoid or reduce this risk;
• Taxes. Taxes eat up profits, so use tax-advantaged accounts like IRA and 401k's;
• Expenses. For example, taxes, fees and commissions also eat up profits. The less you pay them, the better;
• Time. The longer you wait, the less profit is accrued to you under the compound interest system.
The basics of mathematics do funny things with money over time. In the early stages, compound interest acts slowly and brings little income, and this is probably why many people ignore it in the early stages. But once it starts, it speeds up exponentially the longer you let it go. If you don't have a billion dollar idea in your mind, then compound interest is the best thing you can use to increase your funds and achieve wealth.
Don't waste your time, be patient and use compound interest correctly.
Investing can help make a dream come true, but not everyone has enough knowledge to make money trading.
And what to do?
Capitalization magic increases numbers to high values very quickly. Naturally, it also works with money, but a little slower. This is called compound interest, and that's what we can use now, no matter how deeply you understand investments.
The most frequent advice in the financial sphere is to accumulate your funds and invest them as early as possible. When you start accumulating as early as possible, time is on your side, and the accrual of compound interest plays a big role in this. The best way to demonstrate compound interest in action is the following example.
There is Louis and Jen, both 20 years old. They are given the opportunity to make a long-term investment with a starting capital of $ 5,000 at 10% per annum for the next 45 years. And they have to make a choice:
1. Annually collect the earned interest or
2. Reinvest interest income annually.
Louis likes to get paid. He already has ideas on how to spend the first interest payment. However, Jen is looking to the future. She decides to reinvest them.
Louis invests his funds and receives the same income of $500 every year.
Louis is happy to take his $500 every year. After 45 years, nothing changes for him. He still has his original $5,000 and 45 years of interest spent.
The power of capitalization
Jen is obsessed with savings. She knows that over time, interest will bring her much more money.
The first few years of capitalization are pretty boring, but Jen waits patiently, because every year her interest income is higher than in the previous one. Little by little, but the snowball effect is gaining momentum.
Around the ninth year, the picture becomes fascinating. Jen gets enough interest income to double her first deposit. Soon, the interest income exceeds her initial investment amount of $5,000. And she gets a percentage of her interest. This is the power of compound interest.
Imagine what Jen could have done if she had invested $5,000 in work every year for the same period of time. Currently, 10% look too optimistic, but let's take, for example, that she earned 6% annually on this money. At this interest rate, Jen's total income would be $1,196,363 (by the way, at a rate of 10%, her total income would be $4,318,429).
Rule 72
Rule 72 is a simple way to estimate the time required to double an investment based on a fixed rate of return. If you divide 72 by the rate of return, you get an approximate number of years during which the investment will double.
For example: if you invested $ 1000 at 4% per annum, then in order to turn your investment into $ 2000, you will need about 18 years (72/4 = 18).
Using this formula, you can also determine the rate of return needed to double your money in 10 years: divide 72 by the number of years, 72/10 = 7.2%.
Regardless of the investment instrument, whether it's bond yields or dividends, Rule 72 gives you an idea of how long it takes to double your money at a given interest rate.
Don't let it work against you!
No matter how good capitalization looks, there are 4 factors that weaken it and work against you:
• Inflation. There are ways to avoid or reduce this risk;
• Taxes. Taxes eat up profits, so use tax-advantaged accounts like IRA and 401k's;
• Expenses. For example, taxes, fees and commissions also eat up profits. The less you pay them, the better;
• Time. The longer you wait, the less profit is accrued to you under the compound interest system.
The basics of mathematics do funny things with money over time. In the early stages, compound interest acts slowly and brings little income, and this is probably why many people ignore it in the early stages. But once it starts, it speeds up exponentially the longer you let it go. If you don't have a billion dollar idea in your mind, then compound interest is the best thing you can use to increase your funds and achieve wealth.
Don't waste your time, be patient and use compound interest correctly.
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