How to double your wealth with Einstein and the rule of 72: the magic of compound interest!

Did Einstein really say that compound interest was the 8th wonder of the world? Or did he say it was the greatest power in the universe? No one can say for sure!

There doesn’t seem to be an official record of these quotes, and it can’t be found in any writings directly attributable to the famous theoretical physicist. But it doesn’t matter! Whether it really came from him or not, he’s still right. Compound interest is your money earning a salary. And the salary of your salary earns a salary. And so on… you get the idea!

Of course, when compound interest works against us because of debt, we still feel the full extent of its power, but the wonder often gives way to dismay. Einstein apparently also said that those who understand the compounding principle are the ones who earn interest, and the others who never took the time to understand, are the ones who pay it.

We hope that dear Albert didn’t really say that one because it’s a bit contemptuous!  

I’ve demonstrated the exponential value of time on savings in several previous articles, but did you know that you can roughly determine the value of an investment quite quickly without a calculator?

The rule of 72 to easily understand the power of compound interest

According to this rule, by dividing 72 by the annual interest rate or the annual rate of return associated with an amount, you will know approximately how many years it will take to double that amount.

If you invest $10,000 of capital in a real estate project with an annual return of 8%, the rule of 72 estimates that you will have $20,000 in 9 years (72/8).

The cumulative effect works both ways. The small balance of $2000 on a credit card at 22% interest will grow to $4000 in 3 years and a few months (72/22=3.27). 

I admit that the method is ultra simplistic and should not be used for proper financial management. In the last example, you would normally make a minimum monthly payment on the card, which would lengthen the time before the debt doubles. The rule also assumes a constant rate over the years, which rarely happens in real life. 

However, in the long run, everything evens out a bit. The rule can thus be used to get a quick idea of the value of your long-term investments or to know when you can afford to retire. 

You have $100,000 in your RRSP at age 35. Your annual return is 9%. It will take you 8 years, at age 43, to double your amount to $200,000. 8 years later, at age 51, you will have $400,000. At age 59, you will have $800,000. You could retire at 67 with a pot of $1.6 million.

The Rule of 69 and 70

Two other similar rules exist. The rule of 69 and the rule of 70 are more precise when it comes to continuous or daily interest. 

But the number 72 has the advantage of having many divisors (1, 2, 3, 4, 6, 8, 9 and 12), which makes it more practical and fun, if your pleasure is to calculate the value of your money over time of course. 

What to remember from all this?

Uno: Einstein may have said a lot of things about compounding interests. What’s true or false? We’ll never really know!

Dos: Money that rolls over on the effect of compound interest better be sitting on the asset side of your balance sheet, cause it doubles faster than we can imagine !

MCB Group consultants will help you establish the best strategy according to your needs and objectives. Make an appointment with one of our consultants!