According to those in the banking industry, compound interest is the driving force in the money market and that can be used to achieve financial freedom by anyone bold enough to invest. So what really is compound interest and how is it calculated? In simpler terms, compound interest can be said to be the interest calculated on the principal amount, plus the accrued interest that accumulates continuously over time, thereby earning more money for the investor while at it. This explanation may sound lame, but when over time, the said compound interest becomes a secret means upon which fortunes can be built on.
When you think about it, there are various ways of calculating compound interest rates. For instance, a simplified compound interest calculation method used by a multitude of banking experts is the Rule of seventy two. Under this method, seventy two is divided by an annual rate of return equaling the years a given amount of money takes to double itself. For example, if you invested two thousand dollars and that sum is earning ten percent on an annual basis, it will become four thousand dollars in approximately seven years, because seventy two divided by ten equals seven.
By calculating the compound interest using the Rule of seventy two calculation method, you can clearly see that the mere act of compounding the interest has a positive effect on an investment. To further illustrate this, let us say a twenty three year old investor invests ten thousand dollars in an index fund, for instance a stock exchange fund that earns ten percent annually. Using Rule 72 compound interest calculation method, the fund’s value will be doubled in approximately 7 years. If the said investor allows the invested money to compound continuously until he or she is sixty five years of age, the invested fund’s value will be doubled approximately six times. By doubling the invested money around six times, the initial ten thousand dollars becomes a princely sum of 640 000 dollars, which is simply amazing!
Although compound interest can with time help you earn a sized amount of money on your investment, it is good to remember that it can also cause some major financial hurdles if applied to a person’s spending habits. For instance, while you may be paying a minimum amount of interest rate on a credit card on a monthly basis, the owed balance can grow exponentially over time, becoming increasingly difficulty to settle it. How is this, you may ask. The interest rate charged on most credit cards is quite high, often something like twenty percent or more. If no repayments are made, the owed balance doubles in approximately three and a half years when using the Rule of 72 compound interest calculation method.
All in all, compound interest calculation is a mathematical wonder that allows people to achieve the much sought after financial independence, irrespective of their nationality, race, economic background, IQ, race and so forth. Compounding your savings early on in life can help to expose a person to high yielding investments, thus gaining high profits on the investment, while time is clearly on your side. This being the case, it is important to have compound interest effectively working for you and with time you will become financially successful.
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