The great Albert Einstein published more than 300 scientific papers and developed endless formulas including the theory of relativity. In 1921 he received the Nobel Prize in Physics. His great intelligence and originality have made the word “Einstein” synonymous with genius.  What I find most interesting is with all of the theories, formulas and principles that he developed he stated, “The most powerful force in the universe is that of compound interest”.  I find this concept incredibly important when it comes to planning your financial future. Compound interest arises when interest is added to the principal, so that from that moment on, the interest that has been added also itself earns interest. This addition of interest to the principal is called compounding.

I have a question for you that will help you understand why Einstein felt compounding is so powerful. If you were given a choice to receive one million dollars in one month or a penny doubled every day for 30 days, which one would you choose? Almost everyone would choose the million dollars. Let’s take a look at

the alternative:

Day 1: $.01  
Day 2: $.02
Day 3: $.04
Day 4: $.08
Day 5: $.16
Day 6: $.32
Day 7: $.64
Day 8: $1.28
Day 9: $2.56
Day 10: $5.12
Day 11: $10.24
Day 12: $20.48
Day 13: $40.96
Day 14: $81.92
Day 15: $163.84
Day 16: $327.68
Day 17: $655.36
Day 18: $1,310
Day 19: $2,621
Day 20: $5,242
Day 21: $10,485
Day 22: $20,971
Day 23: $41,943
Day 24: $83,886
Day 25: $167,772
Day 26: $335,544
Day 27: $671,088
Day 28: $1,342,177
Day 29: $2,684,354
Day 30: $5,368,709

 

This exercise offers quite astonishing results and an remarkable difference once you realize that you would be receiving over 5 million dollars with a penny doubled every day for 30 days. This is the power of compounding!  If you had missed the last five days you would have ended up with only $335,544 instead of $5,368,709.   This is why it is imperative to start planning and investing early in life. Investing is like a rocket ship taking off into space. It spends 80 percent of its fuel during takeoff and once it reaches a certain point it flies smoothly with minimal consumption.

 

One of the handiest financial formulas that I use on a daily basis is also attributed to Albert Einstein. The “Law of 72” is an easy way to calculate approximately how quickly your money will double at a given rate of return.

 

Here’s how it works:

Simply divide 72 by the annual rate of return you expect on your investment.  Let’s say you invest $100,000 in an investment earning a hypothetical six percent annually.  According to the equation, (72 divided by 6), your investment would double to approximately $200,000 in twelve years.  If your investment earns 8 percent a year, it would only take about 9 years to double your money (72 divided by 8).

 

Years to double your money    36 yrs    18 yrs    12 yrs    9 yrs    7.2 yrs    6 yrs
Necessary Investment Return    2%      4%          6%      8%       10%      12%

 

The rule of 72 is based on compounding a fixed rate of return over long periods.  Investing has inherent risks of fluctuating prices, earnings, yields and dividends due to adverse or unpredictable market conditions.  The rule of 72 is hypothetical and there is no assurance that any particular investment would double within

the timeframe.  

 

My intention is that knowing the powerful effects of compounding and the “Law of 72” will motivate you to teach your children to invest early in life.  You also never know when you can impress your family and friends by asking them the doubling penny question or by running instant figures in your head on how long it takes to double an investment at a particular rate of return. Good luck and happy investing!

 

David Rosell is President of the Rosell Wealth Management in Bend. He is the President of the City Club of Central Oregon and the Past Chairman of the Bend Chamber of Commerce. David can be reached at (541)385-8831 or www.RosellWealthManagement.com.

 

Investment advisory services offered through Rosell Wealth Management, a State Registered Investment Advisor.  Securities offered through ValMark Securities, Inc. Member FINRA, SIPC 130 Springside Drive, Ste 300 Akron, Ohio 44333-2431. 800 765-5201. Rosell Wealth Management is a separate entity from ValMark

Securities, Inc.