The power of compounding in finances is often being ignored by people, one have to understand the incredible benefits of compounding by starting early. For those who start early and continue their investments for long tenure, with the help of compounding they can comfortably retire rich or reach their long term goals with ease. Power of compounding helps you in setting up huge corpus if you are disciplined to invest for long tenure.
To explain the importance of financial planning I would like to come up with some 2 cases for understanding the power of compounding.
Power of Compounding Examples
Early Investors vs Late Investors
Phani & Mani are friends who have started their job at the age of 21 with a salary of Rs. 25000 per month, right after joining the company Mr. Phani have started investing Rs. 3000 per month at 10% interest per annul which is compounded quarterly till the age of 45 and have decided not to touch that money till he turns 60 and use that corpus for his post retirement expenses, whereas Mani have started using all his earnings for buying luxuries like expensive mobile phone, cars, fashion accessories, etc. and later at the age of 30 both got married soon or later with the increased expenses Mani though of investing money at the age of 31 (note the 10 year difference here) and have invested Rs. 3000 per month till the age of 55.
Now at the age of 60 assuming that both of these friends have never touched their money Phani gets an amount of Rs. 1,56,24,393 whereas Mani got Rs. 58,19,002 only. Both of these friends have invested Rs. 3000 per month for a period of 24 years and have later invested the maturity amount in fixed deposits which earns 10% interest per annul but the final amount which they have received at their retirement have a difference of 1 crore (approximately).
Key Lessons We Should Learn Here:
- For better results always start investing at young age, the day you ignore today could make you repent in future (which applies not only for personal finances but for every valid case).
- Increase the amount you could invest with your earnings for much better results (I will discuss this in next example).
- The principal money invested by both of these friends is same but if you notice the returns Phani is on safer side with almost 1 crore rupees high in corpus
Compounding the Chessboard Way
There is a popular story (wheat and chessboard problem) which you might have heard which talks about the power of compounding, I am adding my own version of fiction to make it appealing. In ancient India there a person named Harsha in Krishnadevaraya’s kingdom and he found an amazing golden peacock while wandering in forests and though of gifting that to king, the king amazed by the present he have got offered a wish to Harsha saying ask anything you wish I will fulfil that to you. The self-esteemed Harsha initially rejected the wish but the king keep on asking him to make a wish.
Harsha who is a scholar thought for a while and have asked the king to give Rs. 1 (although it didn’t existed at that time; as I told I am adding my own version of fiction here :)) merely for each and every square in the chess board in such a way that the king have to give 1 rupee for first square, 2 rupees for second square and 4 rupees for the third one and so on.
Do you know how much the king have to pay for fulfilling the ‘small’ wish by Harsha it is just Rs. 1,84,46,74,40,73,70,95,51,615 (which is equivalent to 18 quintillion, 446 quadrillion, 744 trillion, 73 billion, 709 million, 551 thousand and 615 rupees) and eventually the king failed to pay him such a huge amount and appointed him as his minister.
Guys this is the power of compounding which can do wonders if you follow the discipline of investing and on a closing note do you know that the great investor Mr. Warren Buffet have made 99% of his wealth after his 50th birthday.
Between Us: Do let us know if you have any questions related to power of compounding, and do share your views on compounding interest to help us in serving the personal finance domain in a better and innovative way.