The renowned physicist, Albert Einstein, may or may not have given the world the following quote: “Compound interest is the most powerful force in the universe.” Whether or not Mr. Relativity spoke those words or someone attributed them to him, investing young and doing just that will go a long ways toward building the kind of wealth that financial independence is made of.
The concept of compound interest is simple. No matter the asset you invest in, take the profit every year and, rather than running out to buy an iPad and drawer full of video games, turn around and plow it right back into the investment. Let’s assume an anemic 5% rate of return. After 5 years an investment of $20,000 has grown to $25, 525. After 10 years $32,577. After 20 years $53,065. And that’s without ever adding another cent to the pot above what you’re making in profit from the initial investment.
If you decided to add an additional $1,000 per year over that two decade span of time, you’d end up with $85,000 for your $40,000 investment. Pretty darn good, even assuming a terrible rate of return and very little follow up investing. The idea of compounding interest is why you need to start investing young. Most people spend their lives working hard for their money. The smart ones figure out how to make their money work hard for them. The magic of compounding interest is one way to go about it.
Another benefit to the reinvesting of dividends strategy is that you pay no tax on the dividends when you do so and most brokers will do it at no charge. They want more money in your account because it means more for them to skim with fees. If investing young can be this good with mediocre assets like stocks, imagine the possibilities with a standout asset like real estate.
The Young Wealth Team
Flickr / mansionwb
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