Carl Richard’s latest sketch simply and effectively conveys the nature of compound interest:
You’ve probably heard that starting early is one of the best investing decisions you can make. That’s because investing done right is short-term boring but long-term exciting.
The reason? The reality of compound interest. Let me explain.
Many people talk about the power of compound interest. Albert Einstein is rumored to have called it the most powerful force in the universe.
Now, I suspect he probably didn’t really say that, but whether he did or not, it’s a point that we often miss in the discussion about compound interest. Despite it being one of the most powerful forces in the universe, it’s not one of the most exciting – at least in the short term. Nothing really great happens until after years and years of discipline and patience.
Take this silly (but true!) story that’s often told to demonstrate how powerful compound interest is: If you start with one penny and double it every day for 30 days, you’ll end up with $5,368,709.12.
I should add a disclaimer here that if anyone offers you an investment that will double in value every day, you should run as fast as you can in the other direction. But let’s get back to the main point. Sure, compound interest has a powerful outcome, but it takes an awfully long time to become fun and exciting.
Now take a look at our penny example again. One penny doubled is 2 cents. Two cents turns to $0.04, $0.04 to $0.08, $0.08 to $0.16, $0.16 to $0.32, $0.32 to $0.64, and $0.64 to $1.28. Nothing very exciting there.
But when you stick with it, it’s that last few times when the figure doubles that it gets very, very exciting. You’re looking at $1,342,177.28 becoming $2,684,354.56, and $2,684,354.56 doubling to $5,368,709.12.
That’s the case with our investments, too. It’s not very exciting at the beginning, but compounding becomes a powerful force after years of patience and discipline.
In case you want to see the penny example in spreadsheet form:
