Power of Compound Interest

How many wonders are there in the world? 7 right?……….WRONG!!! There are 8 wonders of the world. The 8th one is Compound Interest.

The interest which is calculated not only on the initial principal but also on the accumulated interest of prior periods. Compound interest differs from simple interest in that simple interest is calculated solely as a percentage of the principal sum.

With Compound Interest, you work out the interest for the first period, add it to the total, and then calculate the interest for the next period, and so on …..

Compound interest formula

If you understand arithmetic then you can simply calculate your value of an investment with the formula A=P(1+r/100) ^n

where:-

A = final value

P = principle that you invested
r = (interest rate) return on investment

n = number of years.

Take an example:

If you invest Rs. 10 lakh in any asset class which gives you a return of 10% over 10 years, the amount comes out to be Rs. 25,93,742.46 and for 20 years amount would be Rs. 67,27,500

This is called compounding, the longer you invest the more value you get. The value increases exponentially as you will get interest not only on your capital but also on the interest amount which is accumulated. Which means after a definite period your interest add into your principal which subsequently increase your interest income for the next period.

The downside of compound interest

Make sure the compound interest works for you and not against you. Means you have to check that you are not paying any debt which is compounding. If so, you need to repay that debt as soon as possible.

Take person A. If they are in debt ₹ 10,000 in credit cards with only a 10% interest rate, in just 5 years they will be in debt for ₹ 16,453.09

Ensure that compound interest works in your favor, not against you.

“Compound interest is the eighth wonder of the world. He who understands it, earns it … he who doesn’t … pays it.” – Albert Einstein

If you get the below equation, you will know everything about the power of compound interest.