The Magic of Compounding
Albert Einstein once said, "The most powerful force in the universe is compound interest.
" But what exactly does compounding mean in terms of creating wealth? Well, ever wonder how Warren Buffet made his millions? Some know about this, some don't.
Even though we're all taught about compound interest in school, unfortunately, very few people actually understand or comprehend it completely.
Most of the time, we're on the opposite end of it when we take out any type of loan or charge a credit card.
Compounding is usually used to describe how numbers or money grows.
Numbers can grow in mathematic progression - for example 2, 4, 6, 8, 10, 12, or 3, 6, 9, 12, 15, 18, where one unit is added on at each step in the progression, and that action provides the growth, which allows the numbers to grow exponentially: 2, 4, 8, 16, 32, 64, etc.
Now the really amazing part (the magic) comes when you see how fast compounding will make money grow.
When compound interest is used in your favor, you can dramatically accelerate the growth of your money, especially when you compare "simple" interest to "compound" interest.
For example, in an interest-bearing savings account, simple interest is the amount you originally deposit, multiplied by the annual rate of interest, multiplied by the number of years the money stays in the account.
Compound interest is literally interest on interest, and as you can see in the illustration on the next page, it can have a major impact on the growth of your money over the long run.
The more frequently interest is compounded, the higher the effective rate.
You end up making more interest, and some alternative investments like Managed Forex Programs allow you to enjoy the power of daily compounding instead of every month or every year.
Here are a couple scenarios of how simple vs.
compound interest plays out long-term in the form of the following two investment strategies: Strategy #1.
Your great-grandfather invested $1 in 30-day T-bills (or the equivalent) on December 31, 1925, and always rolled over all proceeds into 30-day T-bills, and then taught your grandfather to do the same.
78 years later, that $1 would be worth $17.
56 - big whoop, right? Strategy #2.
Your great-grandmother invested $1 in large stocks (the S&P 500 portfolio) on December 31, 1925, and reinvested all dividends in that portfolio.
78 years later that $1 would be worth $1,992.
80 - BIG difference! This example illustrates the simple power of compounding.
The "safe" rate of return in T-Bills looks pretty wimpy compared to the second example where the profits were compounded over many years.
What option would you choose?
" But what exactly does compounding mean in terms of creating wealth? Well, ever wonder how Warren Buffet made his millions? Some know about this, some don't.
Even though we're all taught about compound interest in school, unfortunately, very few people actually understand or comprehend it completely.
Most of the time, we're on the opposite end of it when we take out any type of loan or charge a credit card.
Compounding is usually used to describe how numbers or money grows.
Numbers can grow in mathematic progression - for example 2, 4, 6, 8, 10, 12, or 3, 6, 9, 12, 15, 18, where one unit is added on at each step in the progression, and that action provides the growth, which allows the numbers to grow exponentially: 2, 4, 8, 16, 32, 64, etc.
Now the really amazing part (the magic) comes when you see how fast compounding will make money grow.
When compound interest is used in your favor, you can dramatically accelerate the growth of your money, especially when you compare "simple" interest to "compound" interest.
For example, in an interest-bearing savings account, simple interest is the amount you originally deposit, multiplied by the annual rate of interest, multiplied by the number of years the money stays in the account.
Compound interest is literally interest on interest, and as you can see in the illustration on the next page, it can have a major impact on the growth of your money over the long run.
The more frequently interest is compounded, the higher the effective rate.
You end up making more interest, and some alternative investments like Managed Forex Programs allow you to enjoy the power of daily compounding instead of every month or every year.
Here are a couple scenarios of how simple vs.
compound interest plays out long-term in the form of the following two investment strategies: Strategy #1.
Your great-grandfather invested $1 in 30-day T-bills (or the equivalent) on December 31, 1925, and always rolled over all proceeds into 30-day T-bills, and then taught your grandfather to do the same.
78 years later, that $1 would be worth $17.
56 - big whoop, right? Strategy #2.
Your great-grandmother invested $1 in large stocks (the S&P 500 portfolio) on December 31, 1925, and reinvested all dividends in that portfolio.
78 years later that $1 would be worth $1,992.
80 - BIG difference! This example illustrates the simple power of compounding.
The "safe" rate of return in T-Bills looks pretty wimpy compared to the second example where the profits were compounded over many years.
What option would you choose?