Law of compounding – for real life improvement

Affirmative action, compounding, Human Brain

I read – maybe 10 years back – Delivering Happiness by the CEO of Zappos – Tony Hsieh. I don’t quite remember everything in the book except that it was the journey of Zappos. However there is one statement from the book which Hsieh makes, which has remained with me since then, if you can improve even 1% everyday, imagine the improvement you will have at the end of the year – 367%. However inspite of having read it and also put it on a board where I could see it everyday, I have not improved 3670% in the last 10 years. The idea is simple I understand it but I still don’t go about achieving it.

The Japanese have a incremental improvement method called Kaizen which is about bringing about small incremental improvements continuously resulting in massive improvements over a period of time.

Both seem to be very simple concepts but we don’t end up following them. If you have been following my blog for sometime you would have noticed that as I am getting more experienced at writing things I am also questioning things about how I can be improving myself. Right now I am working on improving my reading capabilities. I have an agenda to read at least 3 books every week, consistently over the next few months, inspite of all the extended working hours we are having due to the lockdown. I want to check if I can improve my reading, which means I gather more knowledge, which then I try to put into action and therefore improve myself on a regular basis.

Yesterday however I was watching a YouTube video of Dan Sullivan of Strategic coach and he explained a very simple concept because of which I may not be achieving our goals for real life improvement. His logic is that there are no impossible goals, there are only impossible timelines. And because we give impossible timelines to ourselves, we end up messing up on achieving our goals. In case you are interested you can watch the video here.

As per him if we were to give ourselves long enough timelines, then our brain will not put barriers. The timelines he talks about doing a 10X is 25 years and breaks it down into quarters. So in 25 years there will be 100 quarters. If we were to use our compounding equation S=P*(1+r/100)^n. So if we put P=X and S=10X and “n” =100 then “r” turns out to be just 2.5% growth per quarter.

Is it feasible to improve 2.5% per quarter or less than 1% per month. Should be possible. If we were to break down our improvement points into clear bite sized goals then 1% per month should be very feasible and 10X in 10 years should also be feasible.

The reason this compounding works is because as a human being when you improve the first time, the next improvement is over the previous improvement and this cycle can continue forever. This is exactly how compounding works on your money and this how compounding works in real life as well. However our brain is conditioned to think in terms of linear activities. It is just not capable of comprehending non-linear equations like compounding and therefore whether it comes to money or self improvement our brain plays games with us.

Its one of those laws which are universal in nature and should apply to me as well. If I can improve by more than 1% every month in different areas of my life, based on the knowledge I acquire by reading the books and taking action, I should be able to grow. Let me see how this goes. Just to share the progress in the last 3weeks I have been able to complete 8 books. All non fiction books. These include Crushing It by Gary Vaynerchuk, Bold by Peter Diamandis, Attackers Advantage by Ram Charan, Triggers By Marshall Goldsmith etc. All these books are quite dense, as you will see in the picture, but I am trying to keep to my target.

Let me know if you also see Compounding in other areas of your life. I will be very interested in hearing your story.

Till next time.

Carpe Diem!!!

Meeting financial goals with Hemchandra – Fibonacci series

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I have always harped on why the rate of interest and the tenure are the two most critical factors to make the law of compounding be a major friend for you.

In India we have had a lock down for the last 3 weeks. So we are all working from home. But on weekends, because there’s no place to visit or friends to meet, we are getting a lot more time to do research. On one of these research journeys a few days back I was reading about the Hemchandra – Fibonacci series.

It seems about 3000 – 4000 years ago when there was very little written text as a medium of transfer of knowledge, Indian sages used to build the scriptures in such a way that there was scientific pattern so that the texts were rhythmic and easier to learn.

So what’s the series – we will not go into the mathematical part of the background – but concise to say that it defines any number to be the sum of the immediately preceding two numbers. So if your first number is 1 and the second number is also 1 then the third number will be (1+1) meaning 2. The fourth will be the summation of the 3rd number and the second number (2+1) equaling 3. The fifth will be summation of 4th plus 3rd (3+2) equalling 5. Now starts the interesting part the sixth number is fifth plus fourth (5+3) equals 8 and the 7th number is (8+5) equaling 13…..see the image above

This rattled my mind completely. Which brings me back to the introduction. I had always stressed that starting early even with a small amount and being invested over a long term are the basis of wealth creation. Which meant that those who started late in life on this journey could not benefit from the “number of years” part of the equation.

But understanding this sequence changed everything…..to explain this let’s make a few assumption. For comparison we assume that the first person starts at age 25 while the second one starts at age 40. Let’s call the first person Anil and the second Tom.

Now Anil starts investing USD(or Rupee) 500 per annum from age 25 till age 57 at a rate of interest of 15%. At age 60 he will have a corpus of USD(or Rupee) USD (or Rupee) 505436 while he would have put in only USD (or Rupee)16500 (500*33 years), the compounding would have created the magic to turn this into such a large sum. This is what I have been harping over the last few years to everyone who is even willing to give me half an ear of attention. Even with small amounts if you start early you can become wealthy because of compounding.

Now comes the interesting part. Suppose you are in your mid 30s or early forties, you can still make a similar or larger amount of corpus for yourself if you follow the Hemchandra-Fibonacci concept.

At age 40, Tom starts with investing USD 500(Rupee) in the first year at the interest rate of 15%. He has the same agenda to have a corpus by age 60 and invests till age 57. In the second year he again invests USD (or Rupees) 500. In the third year following the principle he adds the first 2 years investments and invests USD 1000/-. In the fourth year he invests 1000+500 (Adding the previous 2 years) equaling 1500/-. In the fifth year he invests 1500+1000 (adding fourth year plus third year) equaling 2500/-. In the sixth year he invests 2500+1500 (adding the investment of fifth year with the fourth year) equaling 4000/-. If he continues in this fashion by the eleventh year i.e at age 52 he would have amassed a larger corpus than Anil at age 60.

So what’s the catch here. The catch is that you have to maintain the disciple of ensuring you are investing the sum of the previous two years. As an example in the eleventh year of the above situation with Tom, he would have to invest 44500/- and over the years he would have a total sum of 116000/-

I have not included the maths of how I have made the calculations, but if you are interested, I could share them with you separately.

Now knowing human nature its very difficult for human beings to ensure discipline of increasing the investments to be the sum of the previous 2 years ( Read Charles Duhigg “The Power of Habit” or Marshal Goldsmith “Triggers”). Second the physical ability to earn so much money that you can spare a summation of the previous two years is quite difficult except if you are an entrepreneur in a high growth market with a high growth product or service (what Richard Koch calls the STAR principle).

For most mortals its better to start early and put investments in automatic route in a Systematic Investment Plan so that the money gets puled out of your account before you get to use it. Its easy and because you don’t have to think, it gets done. But if you have crossed the age of 35, you don’t need to lose heart. As long as you can continuously increase your annual investment at a significant rate you could still meet your long term plans and retire rich.

Till the next time.

Carpe Diem!!!

Laws of compounding to beat the corona virus spread

compounding

I have always spoken about the magic of compounding. Knowing the interest rate and the tenure can help you generate wealth.

However today all over the world you are seeing the negative impact of compounding. The corona virus is following the same compounding logic. You can use the same rule of 72 to determine how soon something will double. Wherever the the rate of growth has been allowed to cross a threshold it suddenly starts doubling every few days.

Countries like the US and Italy and overall Europe where there was a delay in putting lockdowns in place, the rates have galloped to almost 30%/day. By the rule of 72 it means that every 2 odd days the number of cases is doubling.

What has to be understood is that medical infrastructure, facilities. and staff, cannot keep growing at the same rate at which the virus is spreading. So the rate at which deaths will take place going forward is going to be even higher. The medical infrastructure needs respite if it has to be able to take care of people. In developed countries, the population is dispersed and the medical facilities are very good. For developing nations like India where the population density is so high and medical infrastructure is still not so good, it’s a time bomb.

Since there is no cure yet for this, the only way to handle is by ensuring reduction in contact between people.

Now that’s the good news.

Since it can only spread through contact, you can dramatically cut the rate of growth by not coming in contact with another human being. And since the compounding equation is exponential in nature you can take benefit of reducing the spread dramatically.

If the rate of growth is brought down from about 30%/day to 1%/day then it will take 72 days for the number of people infected to double. If you bring it down to 0.1%/day, it will take 720 days for the infected people to double. That will then ensure you are able to take care of the people infected better.

The PM of India along with the government of has been taking pro-active measures to ensure that we keep the growth rate low and has also put a 21 day lock down to essentially cut the growth rate. But somehow there are still people who are not realising the gravity.

I have been locked in my house for the last 8 days except to bring essential items like milk and bread but I still see some people walking in the open and talking to others in the open without masks and essential safety measures. I can understand about the poor, uneducated people who don’t understand the gravity, but I see even well educated people doing the same things.

Not sure if you have read the book “Triggers” by Marshall Goldsmith. If you haven’t, highly recommend you read it. In chapter 2 of the book – he talks about belief triggers that stop behavorial change – and one of them which come to my mind because of which people are not willing to change – item 5 – ” I shouldn’t need help and structure” . Most people overestimate themselves and don’t like simplicity and structure.

The virus spread can be brought to a grinding halt with such a simple solution of just staying locked up….but we have a problem adhering to this simple solution.

I just hope you and your families are safe and continue to stay locked to bring the growth rate down dramatically.

Till next time….