The Power of Compounding

February 8, 2016 by admin

Did you know that money saved today is more valuable than money saved tomorrow? That’s due to the amazing power of compounding. To determine how quickly your savings may double, simply divide 72 by your current annual rate of return for a rough estimate. For example, if you make a one-time investment of $7,500 today at an annual growth rate of 7.2%, based on the Rule of 72 (a simplified way to estimate how long an investment will take to double at a fixed annual rate), that one year of savings will potentially grow to:

After 10 years = $15,000
After 20 years = $30,000
After 30 years = $60,000
After 40 years = $120,000

That’s a compelling reason to begin saving early in life! Here’s another: a 40-year-old who begins saving $5,500 a year for retirement at a hypothetical 7.2% annual rate of return in a tax-deferred savings vehicle, like an IRA or 401(k), would accumulate $415,076 (vs. $312,914 in a taxable savings account) by age 65. A 25-year-old saving the same amount at the same growth rate would accumulate $1,328,204 (vs. $817,630 in a taxable savings account) by age 65. To reach the younger saver’s tax-deferred savings total, the 40-year-old would have to save about $17,600 a year—more than three times the annual savings amount of the investor who began saving at age 25.*

While the Rule of 72 is a reasonably accurate shortcut for estimating growth rates that fall between 6% and 10%; the higher the projected growth rate beyond 10%, the less accurate the calculation becomes. To calculate earnings growth rates above 10%, use an online compound interest calculator, or set up an appointment with us to discuss strategies for pursuing your long-term retirement savings goals. We can be reached at (714) 634-8051 or you can email us at info@orangecapitalmanagement.com.