Power of Compounding
The power of compounding in counter-intuitive and best understood by making the actual mathematical calculations. Don’t worry, once you have grasped what is happening, it is easy to apply.
I deposit Rs 100 in the first year. The rate of interest is 10%.
Applying the power of compounding, this Rs 100 becomes Rs 672 in 20 years.
Note, you have only deposited Rs 100. Here we aren’t even talking about depositing anything else, just making sure the interest is used again rather than withdrawn. You get over 6 times the initial amount invested.
[Rs 100, @10% pa, 20 years = Rs 672]
Taking a larger initial deposit of Rs 1 lakh.
In 20 years, this becomes 6.72 lakh through the power of compounding. This is over 6 times the initial capital.
In 40 years, this becomes 45 lakhs. This is over 45 times the initial capital.
Earlier you start, the longer you invest, larger the returns, even on a considerably small principle amount.
[Rs 1 lakh, @10% pa, 40 years = Rs 45 lakhs]
We can calculate the final CI amount by using the following formula:
A=P(1+r/n)^nt
REMEMBER: Earlier you start, the longer you hold, the larger the returns.
There are many online tools which help in calculating the power of compounding. But for more flexibility, open Excel and try it out yourself.
Disclaimer: This is a theoretical understanding of the power of compounding. The actual results may vary according to market fluctuations and interest rates. This is not investment advice.
Disclaimer: The contents of this page do not constitute investment advice. Please contact your authorised investment advisor before making any investments or acting upon the contents of this page.