Compound Interest: What You Really Need To Know about the Rule of 72
“Compounding Interest is the most powerful force in the universe.” – Albert Einstein
“Compound Interest is the 8th wonder of the world.” – Albert Einstein
A quick search on Snopes.com confirms that we really don’t know whether or not Albert Einstein said either of these things. However, this should not stop you from adopting this belief immediately.
The biggest mental hurdle that prevents most individuals from saving and investing is their belief that the time required takes too long to see a benefit.
While I am not going to be able to convince anyone who has firm beliefs supporting procrastination, I will tell you a neat little trick to help you overcome this for yourself.
How Long Will It Take To Double My Money?
This is a question we can all relate to, right?
My entire life I struggled with math, until I added a dollar sign to the numbers. – Skyler Irvine
Ok, so compounding takes too long for you so whats the point? The point is that time is going to pass by regardless, so why not set yourself up to benefit from it?
The best time to plant a tree was 20 years ago. The second best time is right now. – Chinese Proverb
So lets skip all the small numbers and go strait into: “how long does it take to double?”
The real equation to solve this looks something like:
Ok, stay with me now. Don’t fall asleep.
Rule of 72:
This rule is merely an estimate. But if you want to fact check me you will find its pretty damn close to accurate.
Lets assume you have $100 that you are going to invest at 10% annual return per year. We already know that through the power of compounding you will have
$110 after one year
$121 after year two
$133.1 after year three
…….and so on
But lets skip to the good stuff: DOUBLING IT!
Instead of all the algebra above, just take the number 72 and divide it by the interest rate.
In this example take 72/10 where ’10’ is the 10% interest rate.
The answer is 7.2 years do double your money at 10% interest.
The actual equation comes out to between 7.2 and 7.3, but takes much longer and involves a nicer calculator than I own.
How long does it take to double at:
3% annually? 72/3= 24 years
5% annually? 72/5= 14.4 years
7% annually? 72/7= 10.2 years
So imagine buying a stock that pays a dividend of 3%. Without increasing your investment and not taking into consideration the asset appreciating, you already know you can double your money in 24 years.
Now imagine you increase your investment over time.
Now imagine, that like most dividend paying stocks, the dividend actually increases over time. So 3% at your initial investment might rise to 5-10-15% or more over the next 24 years.
Now imagine that the actual company has appreciated as well, further increasing your initial investment.
It really doesn’t matter if Einstein said those quotes or not. In fact, I would argue that because its such an important fact that assuming it was spoken by the smartest person we know gives the quote even more clout.
But again, I am not here to convince you.