Sunday, February 13, 2011

The Rule of 72 in a different light

We previously discussed the the Rule of 72 as a simplified way to find out how long an investment will take to double at a given interest rate. Here’s how it goes:
Divide 72 by the given interest rate and you can find out how many years it will take double your money.
The Rule of 72 also works in another way;  you can find out the exact interest rate or rate of return needed if you wanted to double your money within a certain number of years. You can rework the Rule of 72 like this:

72 ÷ # of years = the rate needed to double your money


Here is an example:
Let’s say you saved up $5,000. Now you would like to double that amount in the next 6 years but you are not sure what type of investment or interest would be needed to achieve that goal. Let’s plug in the numbers...

      72 ÷ 6 (years) = 12 (%)

Solution: In order to double $5,000 in 6 years time, you will need to find an investment giving you a compounded annual return of 12%.

Really simple stuff, but you should consider using this as a gauge when looking at your own financial planning.  If your time horizon is say 10 years, remember that you need about 7% of compounded annual return to double your money.  This might come in handy when you talk to your broker the next time.

3 comments:

  1. Albert Einstein (1879 - 1955) called compound interest "the 8th wonder of the world". Here is an easy rule you can use to work out how your savings or investments can grow with compound interest. It is called the Rule of 72.

    The rule of 72 is a rule of thumb that provides approximations but it is surprisingly accurate. It is a quick and simple technique for estimating one of two things:

    1. The time it takes for a single amount of money to double with a known interest rate.
    2. The rate of return you need to earn for an amount to double within a known time period.

    ReplyDelete
  2. Woah! I’m really enjoying the template/theme of this site. It’s simple, yet effective. A lot of times it’s challenging to get that perfect balance between usability and visual appearance.

    ReplyDelete
  3. I think that this information might come in handy when it comes to the next conversation to the broker. Thanks for sharing!

    ReplyDelete