Compound Interest: Taking Einstein For Granted by J. J. Wenrich CFP The Startup

That might not seem like much, but understanding that simple fact can have a major impact on your financial success. The above example of doubling a dollar a day may sound unrealistic. However, in the real world, many do expect to have their investment returns double within a short period of time But the fact remains, the higher the potential returns, the higher the risks. Simply put, the more returns you seek, the higher the chance of losing money.

And this is where Albert Einstein comes into play. According to Einstein, “Compound interest is the eighth wonder of the world. He who understands it, earns it … he who doesn’t … pays it.” At first this quote might seem like a bit of an exaggeration but the math behind it shows that it is not.

Published Nov 6, 2006

That being said, the market almost never returns anything near the average. Only 6 times in that span has the market returned between 5% and 10%. It usually returns much higher or much lower than 10%.

• Now, just for fun, imagine in the above example that each period represented a year instead of a day.
• Let’s say that you are able to squeak out a higher rate of return, because of your diligence and insight.
• With it working for you, they would grow to over $900,000.
• This article is over two years old, last updated on May 5, 2017.

Old Grandpa Rockerfeller the multi-millionaire who preached thrift said something I never forgot. He said, “The 8th wonder of the world is compound interest.” Unfortunately very few people understand the magic of compound interest. By the time they are 60, Investor 1 only set aside $13,000 (age 18 – 30) but Investor 2 set aside $30,000 (age 31 – 60). Even with all that fanfare for the topic, I’ve been guilty of neglecting to properly cover it when discussing financial literacy.

Compound Interest - The Most Powerful Force in the Universe?

But how much would you save if you simply just packed your lunch instead? It might not seem like you would save a ton of money, but you can pretty easily pack a very hearty lunch for $3, and then your savings for just that one lunch is $9. I have coworkers and friends that will go out to eat every cash equivalents definition single day for lunch. Some days they’ll spend $7, others it’s $20, but on average I would say it’s likely right around $12, especially if you’re sitting down somewhere. Nowadays it’s somewhat hard to go out to eat for under $10, and then you can tack on a 20% tip and end up at $12 pretty quickly.

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It would be $21,231,575, which is of course outlandish. Nobody has that kind of money to save for their kids. But what if we saved just a little bit for them.

QI hypothesizes that an anonymous advertising copywriter initiated the idea that compound interest was the world’s greatest invention or man’s greatest invention. However, 1916 is not necessarily the origin of this hyperbolic statement, and future researchers may locate earlier citations. QI was unable to find any support for the attachment to Einstein, and QI believes that it is very unlikely that Einstein made this remark. References continued to proliferate, but QI will stop the presentation here because the citations above provide a reasonable sample. One question I was asked at practically every stop was, “What’s the greatest invention of all time?

Compounding interest affects everyone the same, because it depends on time. Regardless of how much you make, the sooner you get started the better the 8th wonder of the world will start working for you—and a penny saved today could mean millions in retirement. Now, just for fun, imagine in the above example that each period represented a year instead of a day. And those 30 years were your working years when you had the choice of putting something aside for retirement.

Compound Interest: Taking Einstein For Granted.

That's enough to buy a small island for the birthday celebration, or just about anything else she or her family could want. Neither the article or the bank said how much the $6.11 would have grown to today. But if the account paid a 2 percent interest rate, June would now have $42.55 and could buy a moderately priced dinner to celebrate her 100th birthday. Investor 1 saves $1,000 per year from age 18 – 30 – then STOPS SAVING FOREVER.

Einstein and the magic of compounding

That’s why lottery winners oftentimes end up broke years later. While everybody might know that interest is bad, only a few people decide to do something about it. And if I can be quite frank, it’s why broke people are broke and rich people are rich.

Einstein’s Theory of Compound Interest

I lived on a ranch in California, and I was hard put to find the ladder whereby to climb. I early inquired the rate of interest on invested money, and worried my child’s brain into an understanding of the virtues and excellencies of that remarkable invention of man, compound interest. If Columbus had of placed one single dollar out at 6% interest compounded annually with instructions to pay the proceeds to you today, you would have over Ten Billion Dollars coming to you. If you invest your capital at that rate for 10 times as long (50 years), you will not multiply your wealth by 16 times.

Consequently, your estate is taxed on your capital gains up to that date. So, for individual stockholders, buy and hold works best if you live to be as old as Methuselah. We have a 2-year-old and another baby on the way, and we love Greatest Gift’s discover section.

This year instead of earning $100 dollars you earn $110. The 10 extra dollars are due to compounding as you have earned a return on your return. This doesn’t seem like very much but the secret with compounding is to amplify it by investing for long periods of time.