David K. Hovis

Investing 101: Compound Interest and The Rule of 72

Investing in the stock market requires patience and commitment.  Patience is needed to weather the market swings and to allow time for your money to grow.  Commitment is necessary to stick to your strategy for those long-term goals to be achieved.  Investors are often short sighted when their investments don’t yield amazing results immediately.  What we must remember is that no one will ever successfully time the market consistently.  It’s not TIMING the market that matters, but TIME IN THE MARKET is the key.  Staying patient and committed to their financial strategies, investors can see the power of compound interest in action.

Those first few years of investing might seem like they yield minimal gains.  But investing in systematic intervals can yield big results over many years.  This is the power of compound interest.  For example, if you were to invest $200 per month, every month, for 40 years and saw an average annual return of 10%, at the end of the 40 years, you would have invested $96,000.  (The average return of the S&P 500 since its inception is 10%.)  But by compounding the interest based on the time invested and the average annual rate of return of 10%, this $96,000 will have grown to a whopping $1,062,222.13.  Want to challenge those numbers or run other scenarios?  Click on this link for a compound interest calculator to calculate your own investment projections: 

https://www.investor.gov/additional-resources/free-financial-planning-tools/compound-interest-calculator

Many people want to know how long it will take for them to double their money.  There is a simple way to calculate that, without the need for a financial calculator.  It’s called the Rule of 72.  This rule states that to determine how much time it takes to double your money, divide 72 by your rate of return.  So, say you are earning a consistent 10% return each year.  You can expect to double your money in 7.2 years (72/10 = 7.2).  If you have a 5% annual return, it will take you 14.4 years to double your money (72/5 = 14.4).  Rates of return rarely mirror each other year over year, but as an average, this can give you a good estimate about how fast your money can grow.

As mentioned above, it can’t be stated enough, that timing the market rarely works.  TIME IN THE MARKET is the key as we can see through the power of compound interest.  It’s kind of like the story of the tortoise and the hare, where slow and steady wins the race.  With regards to investing, slow and steady can help you achieve your financial goals.  By exhibiting patience and commitment, you, too, can witness the power of compound interest with your investments.

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