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Compounding interest
What we'll learn:
1) What is compounding interest?
2) How much is compounding interest actually worth?
You're walking down the street and some mysterious stranger offers you a proposition: He'll give you either a million dollars, or a penny that doubles every day for a month. You think, "Hey, my mom didn't raise no fool! Give me the cool million upfront."
Sorry, but you should have taken the penny. Because at the end of 30 days, you'd have $5,368,709.12. That's a little more than one million dollars, no?
In a nutshell, that's compounding interest, which amazed even Albert Einstein (see Party Facts, to the right).
And if Einstein said it, it must be true, right? But compounding is magical because it makes your money work for you, which is great. But then it takes that money it just made and puts that to work, as well.
This way, every single one of your dollars is out there making more and more. It's all for you, and it's a big reason you should get into the market as early as you can.
So let's look at that again: Say you've got $10,000 you want to put in your bank. The bank is going to pay you 5% interest on your $10,000.
Wow, you've just made $500 after the first year, right? So now the following year, you have $10,500 to put in the bank.
With compounding interest, your $500 becomes $525! Over the course of two years, your money has earned $1,025.
And you'll gain even more interest the next year, because you have more money.
That's why opportunities exist in the market.
If you make the right investments, you could earn 35% off every dollar. And when you compound that, you make even more money.
Compounding interest is very powerful, and it ultimately decides the difference between the wealthy and the not wealthy. The wealthy have figured out how to earn money at a very high rate of return for a long period of time.
The earlier you begin using compounding interest as an income tool, the better off you'll be. Every year counts!
Three Facts to Wow Your Friends at a Party
1) When asked to name the greatest invention in human history, Albert Einstein replied simply, “compound interest.”
2) During one Tonight Show monologue, Johnny Carson quipped, “Scientists have developed a powerful new weapon that destroys people but leaves buildings standing. It’s called the 17 percent interest rate.”
3) Compound interest was severely condemned by Roman law.
1) What is compounding interest?
2) How much is compounding interest actually worth?
You're walking down the street and some mysterious stranger offers you a proposition: He'll give you either a million dollars, or a penny that doubles every day for a month. You think, "Hey, my mom didn't raise no fool! Give me the cool million upfront."
Sorry, but you should have taken the penny. Because at the end of 30 days, you'd have $5,368,709.12. That's a little more than one million dollars, no?
In a nutshell, that's compounding interest, which amazed even Albert Einstein (see Party Facts, to the right).
And if Einstein said it, it must be true, right? But compounding is magical because it makes your money work for you, which is great. But then it takes that money it just made and puts that to work, as well.
This way, every single one of your dollars is out there making more and more. It's all for you, and it's a big reason you should get into the market as early as you can.
So let's look at that again: Say you've got $10,000 you want to put in your bank. The bank is going to pay you 5% interest on your $10,000.
Wow, you've just made $500 after the first year, right? So now the following year, you have $10,500 to put in the bank.
With compounding interest, your $500 becomes $525! Over the course of two years, your money has earned $1,025.
And you'll gain even more interest the next year, because you have more money.
That's why opportunities exist in the market.
If you make the right investments, you could earn 35% off every dollar. And when you compound that, you make even more money.
Compounding interest is very powerful, and it ultimately decides the difference between the wealthy and the not wealthy. The wealthy have figured out how to earn money at a very high rate of return for a long period of time.
The earlier you begin using compounding interest as an income tool, the better off you'll be. Every year counts!
Three Facts to Wow Your Friends at a Party
1) When asked to name the greatest invention in human history, Albert Einstein replied simply, “compound interest.”
2) During one Tonight Show monologue, Johnny Carson quipped, “Scientists have developed a powerful new weapon that destroys people but leaves buildings standing. It’s called the 17 percent interest rate.”
3) Compound interest was severely condemned by Roman law.
An Interesting Look at Compounding
Now you know all about compound interest and how great it is, but how does it really compare to other kinds of interest?
Well, take a look at the chart above: It shows what you can expect from a $10 investment over 40 years with compound interest vs. simple interest.
Since we're talking stocks, we'll assume our $10 returned an average of eight percent per year. Can you guess which line is which?
If you guessed that compound interest is the blue line, you're spot on. As you can see, the two lines are pretty close at the beginning of the chart, but before long compound interest starts to pull away faster than a Ferrari at a green light.
In our example, simple interest takes your $10 and grows to $42. Not bad... until you see what compound interest does. After 40 years, your $10 is now worth $217.
Simple interest gives you a fixed amount of interest based on the amount of money you have at the beginning.
Compound interest, on the other hand, pays you the same interest rate but on the principaland the interest you've earned.
In other words, compounding pays you according to what you have now, not what you had when you started.
Doesn't sound like a big deal, does it? And that doubling penny from the lesson didn't either — until you saw how much cash you ended up with after a month.
Compound interest is one of those things that may not be easy to wrap your head around, but seeing the chart will likely give you a better idea of how it works and why Einstein thought it was so astounding.
It's also good to keep in mind how time plays a factor: the more time you give compound interest to work, the more money it'll make you. That's why getting your money to work for you as quickly as possible is so important.
Now go out there and get your compounding on.
Well, take a look at the chart above: It shows what you can expect from a $10 investment over 40 years with compound interest vs. simple interest.
Since we're talking stocks, we'll assume our $10 returned an average of eight percent per year. Can you guess which line is which?
If you guessed that compound interest is the blue line, you're spot on. As you can see, the two lines are pretty close at the beginning of the chart, but before long compound interest starts to pull away faster than a Ferrari at a green light.
In our example, simple interest takes your $10 and grows to $42. Not bad... until you see what compound interest does. After 40 years, your $10 is now worth $217.
Simple interest gives you a fixed amount of interest based on the amount of money you have at the beginning.
Compound interest, on the other hand, pays you the same interest rate but on the principaland the interest you've earned.
In other words, compounding pays you according to what you have now, not what you had when you started.
Doesn't sound like a big deal, does it? And that doubling penny from the lesson didn't either — until you saw how much cash you ended up with after a month.
Compound interest is one of those things that may not be easy to wrap your head around, but seeing the chart will likely give you a better idea of how it works and why Einstein thought it was so astounding.
It's also good to keep in mind how time plays a factor: the more time you give compound interest to work, the more money it'll make you. That's why getting your money to work for you as quickly as possible is so important.
Now go out there and get your compounding on.
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