The Number One Financial Rule to Understand
You may have heard you should start investing as early as possible. The reason is the Rule of 72.
This rule explains how soon you can expect your money to double. In very simple terms, if you steadily get a 6-10% return, your money will double in 7-9 years, and that amount will double again in another 7-9 years. The longer you have your money invested, the more it will keep doubling.
While calculators and spreadsheet programs have functions to accurately calculate the precise time required to double invested money, the Rule of 72 comes in handy to quickly gauge an approximate value.
For this reason, the Rule of 72 is often taught to beginning investors as it is easy to comprehend and calculate. The Security and Exchange Commission also cites the Rule of 72 in grade-level financial literacy resources.
- The Rule of 72 is a simplified formula that calculates how long it'll take for an investment to double in value, based on its rate of return.
- The rule applies to compounded interest rates and is reasonably accurate for interest rates that fall in the range of 6% and 10%.
- It can be applied to anything that increases exponentially, such as GDP or inflation; it can also indicate the long-term effect of annual fees on an investment's growth.
The Rule of 72 can be leveraged to determine an expected doubling period or expected rate of return.
Years to double
To calculate the time period an investment will double, divide the integer 72 by the expected rate of return. The formula relies on a single average rate over the life of the investment. The findings hold true for fractional results, as all decimals represent an additional portion of a year.
Expected rate of return
To calculate the expected rate of interest, divide the integer 72 by the number of years required to double your investment. The number of years does not need to be a whole number; the formula can handle fractions or portions of a year. In addition, the resulting expected rate of return assumes compounding interest at that rate over the entire holding period of an investment.
Not a New Concept
The Rule of 72 dates back to 1494 when Luca Pacioli referenced the rule in his comprehensive mathematics book, Summa de Arithmetica. Pacioli makes no derivation or explanation of why the rule works, so some suspect it pre-dates him.
An Example of How Your Money Can Grow
Here’s how your money grows under compound interest.
If an investment promises an 8% annual compounded rate of return, it will take approximately nine years (72 / 8 = 9) to double your initial investment.
- If you invest $1,000 today,
- you will have $2,000 in 2031,
- $4,000 in 2040,
- $8,000 in 2049,
- $16,000 in 2058, etc.
You can see how important it is to start investing early to reap a maximum return.
Planning and Patience
In order to earn the most from compound interest, you need a plan, and you need to follow the plan over the long term.
If you don’t have a plan, get one as soon as possible. A local financial planner can help. If you can’t afford one, the American Association of Individual Investors has resources.
Having a plan helps you turn off the noise as markets go through natural cycles, and keeps you from becoming distracted by people suggesting impulsive money moves.
Young people have the gift of time. Get started as early as possible, even if you can only afford to invest a few hundred dollars per month. Keep it invested and your money will grow like magic.
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This content is developed from sources believed to be providing accurate information, and provided by Kelly Financial Planning. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security.
