Rule of 72 and 114: Hacking to Compound your Money
- 16 April 2021 | 160 Views | By Mint2Save
Enter the world of money, and voila!!! You want to double, triple, quadruple, and compound your money insanely. When investing in the ever-expanding world of equities, cryptocurrency, and NFT, the volatility can get to those levels of returns in a very short amount of time.
But it is not everyone’s cup of tea. There are masses who still prefer to invest in the least risk, fixed return avenues. With the returns fixed, the investor often wonders when his investment shall reap returns to beat inflation and create a certain amount of wealth.
While the investment amount, returns, and how your money compounds, are usually not in your hand, some simple analysis can detail when the money you invested gets to its multiple of two, three, or four.
What is the rule of 72 and how does it work?
This brings in the simple metric in the form of The Rule of 72 and 114, thumb rules that detail when your money shall double or triple, respectively. Let us explore in optimum detail.
These rules are reasonable approximations to when an invested sum shall double, or triple when assumed with a fixed rate of return on an annual basis. It can be calculated using the following:
Time taken to double your money = 72/(Return expected from the investment)
Time taken to triple your money = 115 / (Return expected from the investment)
- It is more preferred for the longer-term fixed investment avenues, where there are the least chances of volatility.
- Essentially derived with the idea of compound interest, Rule of 72 and Rule of 115 do not assume additional contributions to one’s investment and are focused on the initial sum invested.
- These rules can come in handy when one is planning for goals like retirement, building down payment for the house, preparing for a child’s education, etc.
Compound interest is what drives banks to phenomenal profits, loans to a longer repayment tenor, and savings to wealth creation.
Even Albert Einstein is remembered for quoting ‘Compound interest is the eighth wonder of the world. He who understands it earns it; he who doesn’t, pays it”.
Read about How Does Compounding of Interest Work?
Analyzing of Rule of 72
Over the internet, there are several valuable resources detailing various rates of interest and the time it takes to double the investment made.
However, with the rule of 72, one needs to analyze only the following:
(a) Is the time taken worth the wait?
(b) Will the returns meet end-use?
Time taken for the investment to double is critical as it also involves the opportunity cost lost while avoiding other avenues. Additionally, the sum invested will remain untouched for the time it is being invested.
Thus, one should consider time as a viable metric.
As known to most of us, inflation is what devalues the money and reduces our purchasing power. It is also quite difficult to bring the equation with inflation in the picture, as inflation has a dynamic nature. An additional issue is increased complexity to predict the exact value of inflation for future years.
Hence, it is recommended to consider the above two questions whenever considering investing based on the Rule of 72 and 114.
Check out this article Understanding Asset Allocation: Insight into Strategies, Importance and More.
What are your best recommendations when investing with these thumb rules in mind? Do tell us.