Rule of 72

Full Transcript

Hey, Trevor. How long will it take for my investment to double?

Today, I want to talk about a popular personal finance concept called the rule of 72. This rule helps the investor estimate when their investment will double given a set rate of return. I really like the rule of 72 because it helps highlight the power of compounding.

So with the rule 72, it states that the time it takes for your investment to double is about equal to 72 divided by your given rate of return. So, if you have an investment that you expect will get a 7% rate of return, you divide 72 by 7. And that means that you should expect this investment will double every 10.3 years. Of course, if you vary the rate of return, you vary the time it doubles. So if we look at a 10% rate of return, we divide 72 by 10, and then therefore we get 7.2 years for the investment of double. The higher rate of return, the less time it takes to double.

Now, let’s take this and apply it to a hypothetical example. Let’s look at Jane. Jane is 30 years old, and she’s done a great job saving and investing. Jane now has an extra $50,000 in her checking account that she wants to invest. So at age 30, Jane takes $50,000 and she selects an investment that she expects will get a 9% rate of return. If we apply the rule of 72 to this 9%, Jane can expect that her investment will double on average every eight years. So what happens after eight years now that Jane’s 38, her $50,000 is now doubled and she has $100,000.

Of course, if Jane leaves this money invested continues to get 9% rate of return, and in another eight years, at age 46, Jane’s investment has now doubled again, worth $200,000, or four times more than her initial investment. As we keep going, you can really see the power of compounding. If we double a couple more times, we get to age 62, where Jane’s approaching retirement. This $50,000 investment alone, has now grown to $800,000!

Now, three things have had to have happened for this to become reality. First and foremost, Jane would have had to invest that $50,000 in a checking account in the first place. As you can see from this table, the younger you start, the more time you have to let your money grow. Second, Jane, of course, would have had to have picked an investment that delivers this average expected rate of return of 9%. And lastly, the simplest but probably the hardest, is Jane had to have left that money alone and let it grow in its investment for 32 years.

Now, I hope you find this video enjoyable, and you can use the rule of 72 to help you strike your balance between living for today and investing for tomorrow.