Baron Rothschild said, I believe, that “Compounding is the eighth wonder of the world”.
There may be other contenders for the title but there is indeed no doubt that compounding can be magical.
The one requirement beyond any other is time. And time is the one thing that none of us can replace. We either take our chance early or we miss out.
That is not to suggest that when we turn 40 it’s all over. It’s never to late to get a few dollars aside. It’s just that earlier is better.
As an example of how powerful compounding can be let me offer you a choice.
The choice is $1,000,000 today or 1 cent today, 2 cents tomorrow, 4 cents the following day and so on for 31 days.
If you were to take the latter choice, how would you go -
Day 2 .........................$0.03
Day10 ........................$7.68
Day 15 ...................$245.76
Day 20 ...............$7,864.32
Day 25 ......... $251,658.24
Day 30 ......$8,053,063.68
A profit would have been made on day 27 when the accumulated funds were $1,006,632.
Clearly at 20 days the compounding choice was looking anything other than impressive.
That it wasn’t impressive highlights another rule of compounding - that the beneficial results are not immediately apparent and patience is needed.
Of course my example assumes a very high return. Let’s assume the investment for a 20 year old of $100 per month through to age 65.
At a 5% return he would accumulate $202,000 and at 8% $527,000. His total contribution in both cases was $54,000.
Significant progress has been made towards financial independence without undue savings pressure later in life.
The numbers change dramatically for a 40 year old. Investing $400 per month for 25 years (a total contribution of $120,000) would accumulate $238,000 at 5% and $380,000 at 8%. Much harder work.
Personally I would rather be the 20 year old. But for most of us we would need to turn the clock back - and that’s not possible.
The message is – its never to late. But the sooner the better.
