Compound Interest

Compound interest is more than likely one of the most useful tools that millennials can use. The reason for this is that we have an enormous amount of time on our hands!

The effect of time on the population

In the 1700’s, the earth was inhabited by just over half a billion people. In the 1800’s the world’s population broke a billion. In the 1900’s the rate of increase started to pick up and over the span of 100 years the world population increased by nearly 5 billion!

Obviously, this phenomenon was influenced by numerous reasons, however it’s clear that the more people there are on the earth, the more opportunity there is for children to be born.

For example, say there are 2 families of 2 people. We currently have 4 people.

Each family then gives birth to 4 kids each. Now there are 4 parents and 8 children.

Later on, the 4 kids from one family decide to have children with the other 4 kids from the other family. Each of the 4 couples gives birth to 4 more children. Now there are the original 4 parents and 8 children, with 16 new grandchildren. This brings us to a grand total of 28 people which is much more than the original 4!

Obviously, this would take time to happen and wouldn’t be something that could occur over night. Much like this example, compound interest with money works in a similar way.

Time to talk money

Let’s say that today you decide to invest $1000, and you expect that each year that $1000 is invested, you’ll receive 7% interest (the average return one could expect from the stock market based on its history).

After 1 year, you’re left with $1070 ($1000*0.07 + $1000)! You’ve made $70 by letting your money do the work for you and you decide to leave your money in the same account for another year!

After year 2, your balance is $1144.90 ($1070*0.07 + $1000)! This year you made more than $70 off of that same initial $1000 investment. You actually made $74.90! Seeing that this worked out even better for you in year 2, you decide to leave the money in there for another 48 years.

50 years total down the road, your initial investment has grown to $29,457.03! This is the power of compound interest!

Compound Interest $1000 Over Time
This picture taken from www.investor.gov shows your investment over the 50 years. Notice that the longer the time, the steeper the curve, which shows more money gained as each year passes.

Not enough money for you?

Now let’s take it one step further and say that you decide to contribute $1000 a year to that same account with the same average of 7% interest. At the end of 50 years your investment has grown to $435,985.95 even though you’ve really only put in $51,000 total ($1000 for your first year + 50x$1,000)! That’s not bad at all!

Compound Interest $1000 Added Yearly
This picture from www.investor.gov shows the gains of your investment assuming you put $1000 in, each year, for 50 years. Notice how the value climbs by more and more as each year passes.

Compound interest works best over time, and the more time you have on your side, the more your investment has a chance to grow!

Be sure to check out DSU’s upcoming article on Roth IRA’s to use this concept in an even more efficient way. Also be sure to check out how compound interest can make you a millionaire for the price of a meal a day!

Feel free to reach out to me with any questions you may still have!

 

3 thoughts on “Compound Interest”

Leave a Reply

Your email address will not be published. Required fields are marked *