The Magic of Compounding Part I

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In grade 7 I learnt Simple Interest and Compound Interest. Unfortunately for me I never understood the implications of compound interest. So while my teacher at that time did give us a lot of problems to solve, I got bogged down with the numbers and getting the answer right.

Being from a family which had come up the hard way in life, they also did not know what magic compounding and tax efficiency can create.

I used to think that the education system of our time was extremly socialistic where talking about money was not considered a very nice attribute. However even now I see young boys and girls coming out of college …. in today’s time and age …. without the basic understanding of compounding….most think that you need to have a high salary to be able to invest or need to have a large amount to make any difference to their life.

And because I meet a lot of very talented people, including finance people and chartered accounts, I see them missing this very fundamental issue of life and hence I am ranting about this so emphatically. My next few posts will only focus on this issue

Which brings me to the equation of compounding I learnt in class 7.
S=P*(1+R/100)^N
S is the sum of money
P is the principal amount of investment
R is the rate of interest and
N is the number of years…(there are some variations to this but we will keep it simple)

The magic is caused because of the exponential power in the equation. So while P may have a small role to play it is the number in the bracket which get multiplied exponentially that creates the magic.

So to all of you who think you need to have large amount of money to be able to invest, please look at this equation again.

Till next time….Carpe Diem

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