I’m not talking about some crazy get-rich-quick scheme, either. If anything, it’s a “get-rich-slowly” kind of thing.
The tortoise knew what he was talking about. Slow and steady does win the race – especially with money.
Why? Because of compound interest.
Money earns compound interest when interest payments are calculated using the invested amount (called the principle) AND also adds up on the interest you’ve already earned. The math gets pretty complicated, but the numbers sure do look nice!
There are four variables that make money grow with compound interest: the amount you invest (the principle), the interest rate, how often interest is calculated (also referred to as the compound period), and time.
Let’s say you have $500 to invest. If you put it in an online savings account that gets 1% interest compounded monthly. You’ll have $552.56 after 10 years, $610.65 after 20 years, and $674.85 after 30 years.
You earned $174.85 doing absolutely nothing. Nice, but not very impressive.
Now say you put that same $500 in that same savings account, but you add $10 to it every month. After 10 years you’d now have $1,815.11. By 20 years, you’d have $3,268.48. And after 30 years, the total would be $4,874.62.
That looks a lot better. But we’re not done yet…
If you chose a moderate investment, like a mutual fund, you could get closer to a 7% interest rate. Put your $500 plus $10 a month in this account and you’d have $16,329.12 at the end of the 30 year period!
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But that’s still not a million dollars…
Now consider something called an “index fund”. These investments are still pretty safe because they are based on big trends in the stock market. Over time, they average about an 11% return.
This time, you take your $500, plus $10 a month and put in your index fund for 30 years and you’ll have $41,656.33. Closer… but still not a million.
Instead, let’s add $10 a week… now you’d have $126,563.16.
With a $100 deposit a month, that $500 becomes $296,376.83 in those same 30 years.
Let’s add just 5 years and we’re up to $520,435.27.
Add 5 more years and we have $907,813.42.
REALLY close… so add one more year and we’re there… $1,014,138.49.
Do you see what happened there? We started with $500. Added $100 a month over 41 years and we came out with over a million bucks.
OK… so 41 years sounds like a long time, I know. But at only $100 a month, it is so do-able! If you want your million faster, invest more each month. The earlier you start, the better.
Imagine this for a minute…
You start an investment account for your child on his first birthday. You put $100 in and add $10 a month until he is 18. Then you ask your child to let it sit until he retires at 65. Any idea how much he will have?
Forget the freakin’ allowance! Give your kid a million dollars to retire on!
Compound interest has a dark side, too. And if you get on the wrong side of compound interest, you may never see the light of day again. We’ll cover that next week…
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