By in Business

The power of compounding is a myth

The power of compounding has been taught in schools all over the world for decades.

The power of compounding concept is basically showing the way money can grow.

If you have $100 saved up at the interest rate of 6%, and you do not spend the interest earned, the money will double every 12 years. That means $100 becomes $200 after 12 years, and become $400 after 24 years.

It seems very good on paper.

The reality is that nobody can guarantee an interest rate of 5% year after year.

Many people in developed countries have experienced a few years of low interest rate. When the average inflation is 4%, and the saving interest is 1%, your money actually shrinks.

The same story unfolds in the stock market too. Once a stock market crash happens, it can wipe out half your capital, and all of your paper profits.

This shows that the power of compounding is a myth. In reality, you have to protect your money so that inflation and stock market crash do not affect the value of your money.


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Comments

MegL wrote on June 23, 2015, 3:52 AM

Yes. I learned about compound interest in school and thought it very interesting. But we didn't learn about inflation!

Strgzr66 wrote on June 23, 2015, 4:00 AM

This is true. That is why I think that the Fed keeping the prime at one percent and under, purportedly to prevent inflation, is an injustice to people who have savings accounts and CDs. Inflation is a fact of life for the consumer. Low interest enables the banks and lending institutions to lend these savings at exorbitant rates and at next to no cost to them while, in many cases, charging monthly fees.

rescuegal wrote on June 23, 2015, 4:05 AM

It's all in the timing. You need to know when to invest and when to bail out. I have the worst timing on earth when it comes to anything.

bestwriter wrote on June 23, 2015, 4:52 AM

We have a scheme where the interest rate is fixed and after a period of time the capital doubles. Earlier it used to be 5 years but now it is seven and a half years. When one goes for it for the first time the interest rate prevailing at the time is applicable.

jiangliu1949 wrote on June 23, 2015, 9:36 AM

You shed light on saving and stocks .Believe it or not ,I haven't bought stock so far .I think of it as a gamble .

iwrite28 wrote on June 26, 2015, 9:06 AM

With inflation, there seems to be no way to ensure a comfortable retired life.

scheng1 wrote on June 27, 2015, 8:41 AM

Stock market crash and property market crash are worst. Your house value and investment value become half.

Shellyann36 wrote on July 18, 2015, 3:00 AM

It is hard to save those pennies and earn interest on them.