In my continuous quest to grow this blog, I’ve been surfing around Quora. For those not familiar, Quora is a website that allows users to answer questions that have been asked by others. In a lot of ways it’s a spiritual successor to the wild world that was Yahoo answers (RIP). On Quora, I try to answer questions related to personal finance and investing, then link my relevant blog posts. In the investing section, I noticed that there are a lot of questions that ask how to make a lot of money quickly. The questioner often has a small-ish amount of starting money but wants to use alt-coin speculation, foreign currency exchange, or some other sketchy/risky investment to get insane returns. This attitude is so prevalent that there are an insane number of forex and cryptocurrencies scams exploiting it. We’re at the point where zoomers are more likely to be scammed online than the two previous generations. This attitude lacks the most important aspect of investing: patience. Here’s how our dear friend compound interest will double your money, with the Rule of 72.
The Rule of 72
The Rule of 72 explains how long it takes for an investment to double in size. You take the number 72 and divide it by your anticipated rate of return. That’s right, I’ve tricked you into attending a math lesson. The result gives you the amount of time in years that it takes for your investment to double in size. Projecting the rate of return is where it gets a little bit dangerous. It’s easy to way overestimate the amount of returns that you’ll get based on a small sample size. If you assume that the market will perform like it did in 2020 all the time, you’ll way overestimate your returns. Using historical average returns is the safest path.
I primarily invest in low cost index funds that cover large swaths of the market. Historical returns for this type of portfolio is just around 10% annually, but I use 7% in all my projections to be more conservative. After all, it’s better to end up with more than you thought you would than far less. Now let’s apply the rule of 72.
72/7 = ~10.3
So you can expect that an investment returning 7% will take 10 years to double in value.
Doubling Your Money Through Time in the Market
So you need roughly 10 years to double your money. Let’s use this to show the power of time in the market. I’ve already talked about how maxing out one’s Roth IRA while young yields large results compared with starting later. While I didn’t spell it out, that’s because of the Rule of 72!
For this example, I’ll use a 40 year time horizon. Hypothetically this could be between the ages of 25 and 65. With 40 years, an investment will double four times (still assuming a 7% return). Starting a decade later will mean that your investment will only double 3 times.
“So what? My investment will still be 8x larger than it was when I started.” The crazy part is that by starting only ten years later, your expected return is reduced by HALF.
Let’s take it to the compound interest calculator. Notice how much a $10k investment grows in 31 years. It’s about $80k. That’s fun, it doubled from $10k to $20k, from $20k to $40k, and from $40k to $80k. But wait, look what happened with an additional 10 years. It doubled again to $160k. The extra decade made a gigantic difference.
Discouragement and Action
Even if you’re starting later, don’t get overly discouraged by the math. Instead, see this as a call to action! It’s easy to see that the best time to invest was 10 years ago. But the second best time to invest is today. It’s true that you can’t go back and get the past 10 years of growth back, but look ahead. If you still have decades until retirement, you still have time to double your investments a few times!
Getting Rich…Slowly
Beware of folks online “guaranteeing” extremely high returns on investments or offering to sell you their “proven system” or “algorithm.” These are scams. If someone had a system generating huge returns, they would keep it quiet and offer their services to the ultra-rich for a massive premium. They wouldn’t be seeking out smaller investors to make a few extra hundreds/thousands of dollars.
Your best chance of growing your investments is to do so slowly. The temptation to double your money fast is attractive. That’s the reason so many investors get caught in crypto scams and lose everything. It’s hard to be patient and wait for compound interest to double your money the slow way. Yes, you can double your money many times over. But it will take decades, patience, and perseverance on your part.
Sign Up for the Frugal Jon Journal
Disclaimer: Everything in this post is my personal opinion. I am not an investing advisor. The basis of this article is historical results of the stock market over time. While I personally believe in the Rule of 72, there’s no guarantee of success.