Simple vs. Compound Interest
Simple interest calculates returns strictly against the original principal deposit:
Compound interest calculates interest on both the initial principal AND all previously accumulated interest earnings. In essence, it is "interest on interest":
This feedback loop transforms linear growth into an exponential curve where capital accumulation accelerates exponentially over time.
The Core Compound Interest Formula
Where:
Example Calculation:
Invest \10,000 at 8\%$ annual interest compounded monthly for 10 years:
Your money more than doubled without adding another cent.
Impact of Compounding Frequency
On a \100,000 balance at 8\%$ over 20 years:
Higher frequency produces higher Effective Annual Yield (APY).
Formula with Recurring Monthly Deposits
When you make regular recurring deposits (PMT) at the end of each period:
Worked Example:
Start with \5,000 and deposit \500 every month for 25 years at 7% return:
The Rule of 72 Shortcut
To quickly estimate how many years it takes for an investment to double at a fixed annual return, divide 72 by the rate:
