Understanding Compound Interest

Simple Interest is calculated one time solely as a percentage of the principal sum. As an example, if the principle is $100, and the interest rate is 4%, the value at the end of the interest period (e.g. monthly, quarterly, semi-annually, annually) would be $104 (100 x 1.04).

Conversely, Compound Interest is calculated not only on the initial principal but also the accumulated interest of prior periods.

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Using the prior example, the value at the end of the first period is $104, which now becomes the principal at the beginning of the second period. Therefore, at the end of the second period, the value would be $108.16 (104 x 1.04). With Compound Interest, the growth is exponential because the principal increases each period.

SavvyReaders understand that planning for retirement involves utilizing the power of Compound Interest to grow a portfolio and accumulate wealth.

Albert Einstein, a pretty smart fella, reportedly noted, “the most powerful force in the universe is compound interest.”

Check out the story of twins Robert and Ronald Smith for an illustration of Compound Interest.

Blogger-in-Chief here at RetirementSavvy and author of Sin City Greed, Cream City Hustle and RENDEZVOUS WITH RETIREMENT: A Guide to Getting Fiscally Fit.

3 Comments

  1. New follower & first comment here on Retirement Savvy, great information. Outside of my 401k at work I haven’t done much in the way of preparing for retirement so the information, suggestions & tips you are sharing are very helpful.

    • Great to have you on board. I believe you will find the information in the book and on this blog (presented as discussions, recommendations, and quizzes) to be helpful in understanding personal finance principles and preparing for retirement.

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