Albert Einstein is attributed with calling compound interest the 8thÂ wonder of the world and I am inclined to agree. This might not seem like an enticing subject but if you challenge yourself to learn something new I think you'll be pleasantly surprised. Compound interest relies on simple math and once you understand it, perhaps you'll understand why you should start investing sooner rather than later! Plus, who doesn't want to learn how to turn $10,000 into $100,000?
Here are 3 basic things you need to know about compound interest:
Compound interest has two components: The principal and the interest. The principal is the original amount invested and the interest is a percentage of the principal that you make on the investment (Now read that again).
Compound interest helps your money grow. Essentially, it allows your money to make money.
You invest $100 in your Roth IRA ($100 is the principal).
In one year your investment earns 10% (10% is the interest).
You now have ($100 + ($100 x 10%)= $100 + $10= $110. You made $10.
Now, instead of earning interest on $100, you earn interest on $110. The following year you will earn even more. So on and so forth. Your money will continue to grow based on the interest rate.
This graph explains it a little more:
image courtesy of spendsavegrow.com
Compound Interest has a great relationship with time. The longer you allow your money to compound, the longer it will grow exponentially.Â Did you know that if you invested $10,000 at 10% interest it would grow to $26,000 in 10 years, $175,000 in 30 years, and $1.1 MILLION in 50 years!
But, if you don't have $10,000 to invest at once, contributing $100 per month can have a significant impact on your future. Sacrificing cable or Starbucks coffee today could mean retiring early and becoming a world traveler tomorrow.
image courtesy of russelsage.org
Ultimately, you should remember that compound interest is impacted by the principal amount invested, the interest rate for that year, and time. Compound interest is the number one reason why time is the most valuable asset to a young investor. By leveraging our long time horizon, we can take advantage of the magic of compound interest to reach our long term financial goals.Â I love watching my own investments grow. I enjoy the feeling of knowing that I can make money in my sleep. Itâ€™s practically magic! So, if you are a young adult and you have not yet ventured into investing, reach out to me and the Start Young Financial team. We'll help you gain the knowledge and resources you need to invest with confidence!