“The effects of compounding even moderate returns over many years are compelling, if not downright mind boggling”

 

-Seth Klarman,

American billionaire investor, hedge fund manager, and author

 

 

If you have little to no money in your savings account, you’re not alone. Most people are not prepared for an emergency, much less retirement. If you are saving or investing your money, you probably like to have a good return on your money. What if you could get a return on your return, and get it indefinitely? That’s the concept behind compounding.

 

Through the power of compounding, a small amount of money over time can turn into a large amount of money. In simple terms, compounding is the interest you are paid on the interest you’ve already earned. Let’s say that today you invested $1,000 at a 5% annual interest rate. One year from now you’ll have earned $50 in interest. Now, your total sum is $1,050. In another year your interest will be applied to the new sum, giving you $1,102.50. In 30 years you will have $4,322. And you did nothing but let the money grow.

 

Pretty cool, right? Keep in mind, the amount increased without you adding any more money other than your initial deposit. If you had consistently deposited just another $50 each month, in ten years you would have $9,378. In 30 years you’d have $45,527! Now you’re beginning to see the power of compound interest.

 

In the example above you can see how much can be accomplished with even small sums of money. Investments accounts can really grow when you contribute to them on a regular basis. And if you increase the size of your contributions as much and as often as possible the growth will be even faster.

 

This is the core philosophy behind saving for retirement. If you make regular contributions throughout your working years you can build a tidy sum by the time you’re ready to retire. However, you don’t have to be saving for retirement to benefit from the power of compound interest. All you have to do is leave your earnings alone, let your money work for you, and watch it grow year after year. In this case, time is your friend.

 

Understanding how compound interest works can really help you move forward with your finances. And knowing that credit card companies compound the interest on your balance every month should serve as an incentive to pay off credit card debt as soon as possible, otherwise it will devour your finances pretty quick.

 

The key thing to remember is that the sooner you begin saving the better. The younger you are when you start the better, but don’t let your age deter you. The power of compounding will work for you regardless, and the more you can increase the size of your contributions the faster it will work for you.

 

Like Benjamin Franklin once said, “Money makes money. And the money that makes money makes more money.”

To learn more about compounding interest, financial accountability and coaching give Candice a call at 204-392-6406 or send an email to Candice@cbfteam.ca.