- The Rule of 72 is a mathematical formula that estimates how long it’ll take an investment to double in value or to lose half its value.
- To calculate the Rule of 72, you divide the number 72 by the rate of return of an investment or account.
- The Rule of 72 can only be used on investments earning compound interest; it’s most effective on interest rates between 6% to 10%.
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Learning where and how to invest is intimidating. So intimidating that many people don’t make it to the next step of figuring out how to project the growth of their investments — even though that’s pretty crucial to your making financial plans and setting goals.
What if you could plug some numbers into a simple formula and find out how long it would take for your investments to double?
That’s exactly what the Rule of 72 does. Here’s what you need to know about how it works and why it’s a key tool to keep in your investing toolbox.
What is the Rule of 72?
The Rule of 72 is a mathematical principle that estimates the time it will take for an investment to double in value. The mention of math might make your jaw clench, but the Rule of 72 is actually a very basic formula that anyone can use.
Simply take the number 72 and divide it by the interest earned on your investments each year to get the number of years it will take for your investments to grow 100%. Or to drop by 50%.
However, you can only apply this rule to compounding growth or decay. In other words, you can only use it for investments that earn compound interest, not simple interest. With simple interest, you only earn interest on the principal amount you invest. Compound interest is “interest earned on interest”: It accrues on accumulated interest, in addition to the principal.
Because interest is essentially being added into your principal, and used as the base for fresh interest calculations, compounding makes your investment grow exponentially. Meaning: As interest accrues and the quantity of money increases, the rate of growth becomes faster.
It doesn’t have to be investment interest; anything that augments your principal creates “the magic of compounding.” For example, if you reinvest the dividends you earn on your investments, your earnings are being compounded. Therefore, the Rule of 72 applies.
On the other hand, if you choose to withdraw your dividends rather than reinvest them, your earnings might not compound, and the Rule of 72 wouldn’t work.
How to calculate the Rule of 72
To calculate the Rule of 72, all you have to do is divide the number 72 by the rate of return. You can use the formula below to calculate the doubling time in days, months, or years, depending on how the interest rate is expressed. For example, if you input the annualized interest rate, you’ll get the number of years it will take for your…
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