# THE POWER OF COMPOUNDING INTEREST

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```					    THE POW ER OF COMPOUNDING INTEREST
From Dustin Woodard

Discover the 8th Wonder of the World
There are many decent examples of the impact of compounding interest on the Web, but
they seem to fail at providing an example that is easy to relate to. I have created a scenario
to help you truly understand what Einstein called the "8th wonder of the world."

father offers to put \$20,000 into a savings account, and Chuck's father offers to put \$20,000
are retired, age 65.

Matt's father goes a step further and says he will automatically add \$20,000 into the savings
account every year until Matt is retired. After Matt and Chuck discuss their graduation gifts,
Chuck feels cheated.

For simplicity, we will assume that inflation is equal to 3%, Matt's savings account earns
exactly enough to cover inflation, and Chuck's mutual fund account earns 10% on top of
inflation.

10 Year Reunion: At their 10 year reunion, Matt and Chuck compare notes. Chuck's

20 Year Reunion: Once again, Matt and Chuck compare notes. Chuck's graduation gift
grew to \$134,550. Matt's account balance was \$400,000. Chuck feels cheated.

3 0 Year Reunion: Although it seemed unnecessary, Matt and Chuck compared notes.
cheated.

Don't worry, there was not a 40 year reunion. However, when it was time for retirement at
age 65, Chuck did give Matt a call; they ended up talking about their graduation gifts. After
47 years, Matt had accumulated \$940,000, all out of his father’s pocket year after year.
After a one-time investment of \$20,000, Chuck's graduation gift grew to a whopping
\$1,763,950! It was now Matt and Matt's father who felt cheated.

The chart shown in the upper right-hand corner of this page shows the growth of the two
investments over time (you can also view the full table here). (see page 2)

In what seemed an unfair comparison, compounding interest was powerful enough to
overcome a much smaller investment. If we put the two investments on even ground by
adding in \$20,000 each year to Chuck's account, the resulting balance would have been
\$17,599,856!

The name of the game is to invest early and to invest often. To further gain an
understanding of this concept, try doing your own experiments with this simple
compounding calculator.

Discover the 8th Wonder of the World                                                      1 of 2
Add \$20k EACH YEAR to bank account    Put \$20k into a mutual fund - ONE TIME
Year 1                       \$   20,000                         \$   22,000
Year 2                       \$   40,000                         \$   24,200
Year 3                       \$   60,000                         \$   26,620
Year 4                       \$   80,000                         \$   29,282
Year 5                       \$ 100,000                          \$   32,210
Year 6                       \$ 120,000                          \$   35,431
Year 7                       \$ 140,000                          \$   38,974
Year 8                       \$ 160,000                          \$   42,872
Year 9                       \$ 180,000                          \$   47,159
Year 10                      \$ 200,000                          \$   51,875
Year 11                      \$ 220,000                          \$   57,062
Year 12                      \$ 240,000                          \$   62,769
Year 13                      \$ 260,000                          \$   69,045
Year 14                      \$ 280,000                          \$   75,950
Year 15                      \$ 300,000                          \$   83,545
Year 16                      \$ 320,000                          \$   91,899
Year 17                      \$ 340,000                          \$ 101,089
Year 18                      \$ 360,000                          \$ 111,198
Year 19                      \$ 380,000                          \$ 122,318
Year 20                      \$ 400,000                          \$ 134,550
Year 21                      \$ 420,000                          \$ 148,005
Year 22                      \$ 440,000                          \$ 162,805
Year 23                      \$ 460,000                          \$ 179,086
Year 24                      \$ 480,000                          \$ 196,995
Year 25                      \$ 500,000                          \$ 216,694
Year 26                      \$ 520,000                          \$ 238,364
Year 27                      \$ 540,000                          \$ 262,200
Year 28                      \$ 560,000                          \$ 288,420
Year 29                      \$ 580,000                          \$ 317,262
Year 30                      \$ 600,000                          \$ 348,988
Year 31                      \$ 620,000                          \$ 383,887
Year 32                      \$ 640,000                          \$ 422,276
Year 33                      \$ 660,000                          \$ 464,503
Year 34                      \$ 680,000                          \$ 510,953
Year 35                      \$ 700,000                          \$ 562,049
Year 36                      \$ 720,000                          \$ 618,254
Year 37                      \$ 740,000                          \$ 680,079
Year 38                      \$ 760,000                          \$ 748,087
Year 39                      \$ 780,000                          \$ 822,896
Year 40                      \$ 800,000                          \$ 905,185
Year 41                      \$ 820,000                          \$ 995,704
Year 42                      \$ 840,000                          \$1,095,274
Year 43                      \$ 860,000                          \$1,204,801
Year 44                      \$ 880,000                          \$1,325,282
Year 45                      \$ 900,000                          \$1,457,810
Year 46                      \$ 920,000                          \$1,603,591
Year 47                      \$ 940,000                          \$1,763,950
(Remember, Matt’s account paid 3% interest, but inflation was also 3%--no gain.)

Discover the 8th Wonder of the World                                                                 2 of 2

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