Everyone says you should invest because it’ll help to grow your money, but let’s back this up a second and look at how it really works. Investing in the stock market yields various returns, and any investor, professional or not, will tell you that the future is never guaranteed. That’s why it’s best to invest money that you most likely will not need for several years.
With that said, one of the best investors of our time, Warren Buffett, several years ago in the aftermath of the financial crisis was quoted saying that investors should expect a return of 6 – 7 percent a year. That’s despite the S&P 500’s long term average of about 10 percent per year over its history (1928 through 2014).
The likelihood of achieving high single digit (to double digit) annual percentage returns is why people invest in the stock market for their retirement. Beyond your emergency fund, why would you put money that you aren’t planning on touching for 10, 20 or 30 years into savings account that can’t even keep up with inflation? According to bankrate.com today’s average money market rate in America is 0.09 percent. With inflation rising at approximately 2 percent year over year, socking away your retirement money into a savings account means you’re actually losing money!
What’s even crazier, there is a new app coming out call Digit that will help people with saving automatically, which is great except that users don’t earn any interest on their savings at all!
As new technology like this continue to pop up, it’s important to think through exactly what you’ll be using your savings for, and to make sure it’s in an account that allows your money to reach its full potential.
By investing money into the stock market your savings should be able to handily beat inflation over time. It seems like a no brainer, right?
Clearly it’s important to invest rather than just letting your money sit in your savings account when possible. If hearing 7 percent doesn’t get you excited, though, you can instead calculate how long it will take for your money to double at this rate.
The ‘Rule of 72’ is a simplified way to determine how long an investment will take to double, given a fixed annual rate of interest. By dividing 72 by the annual rate of return, investors can get a rough estimate of how many years it will take for the initial investment to increase 100 percent.
For example, the rule of 72 states that $1 invested at 10 percent would take 7.2 years ((72/10) = 7.2) to turn into $2.
Now thinking about this in terms of Warren Buffett’s belief that you’ll receive 7.2 percent a year, that would mean if you invested $10,000 at 7.2 percent it would take about 10 years to turn into $20,000 ((72/7.2) = 10).
Okay, now what if you have your $10,000 in a savings account that (let’s be generous) is yielding 1 percent a year? It would take you 72 years to double! ((72/1) = 72). That’s a 60 year difference from investing!
The ‘Rule of 72’ is just math. However, it’s an extremely helpful rule of thumb to put the marathon of investing into perspective. Okay, if I make 6 percent per year how long will it take your $50,000 to reach $100,000? 72 divided by 6 equals 12, so at that rate your money doubles in 12 years.
What about 9 percent per year? 72 divided by 9 equals 8, so at 9 percent per year your money doubles every 8 years. Get it?
If you’re looking to talk with someone, I would suggest heading over to www.yourwela.com, set up a financial “game plan”, or have a chat with one of the team. Wela offers free financial guidance for your big picture financial goals i.e. Saving for college, paying off your mortgage, allocating your 401k, and hitting certain investment asset goals.
No one gets rich overnight (expect lottery winners), but using the ‘Rule of 72’ will help you wrap your arms around just how long a double might take.