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Compound interest is like magic money that grows over time!
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Let's say you put $10 in a piggy bank that pays you 10% interest each year. After the first year, you'll have $11 in the piggy bank because you earned $1 in interest (10% of $10 is $1).
But here's where it gets interesting. The next year, you'll earn interest not just on the $10 you put in, but also on the $1 you earned in interest the first year. So, you'll earn 10% on $11, which is $1.10.
Now, you have a total of $12.10 in the piggy bank. And the cycle repeats itself every year, with the interest you earn growing bigger and bigger because you're earning interest on both the original amount you put in and the interest you've already earned.
This is called compounding, and it can help your money grow faster and faster over time. The longer you leave your money in the piggy bank, the more interest you'll earn, and the more your money will grow. So, the earlier you start saving and earning interest, the better off you'll be in the long run!
There are many famous investors who have benefited from the power of compound interest. Here are a few real-world examples:
- Warren Buffett: Warren Buffett is one of the most successful investors in history, and his fortune is largely due to the power of compound interest. Buffett's investment company, Berkshire Hathaway, has generated an annualized return of over 20% since 1965, which has allowed him to turn a relatively modest initial investment into a net worth of over $100 billion.
- Benjamin Franklin: Although Benjamin Franklin is best known as a statesman, author, and inventor, he was also an astute investor. Franklin started investing at a young age and focused on compound interest as a way to grow his wealth. He famously left a bequest in his will that created a trust fund to benefit the cities of Boston and Philadelphia. The fund was invested and allowed to compound over time, and today it is worth over $6 million.
- Ray Dalio: Ray Dalio is a billionaire hedge fund manager who founded the investment firm Bridgewater Associates. Dalio is a strong believer in the power of compound interest and has often spoken about how it has helped him build his fortune. In his book "Principles," Dalio writes about how he started investing when he was just 12 years old and how he learned to compound his returns over time. By the time he was in his 40s, Dalio had built a net worth of over $1 billion, largely thanks to the power of compound interest. Today, he is estimated to be worth over $20 billion.
- Charlie Munger: Charlie Munger is an investor, businessman, and the Vice Chairman of Berkshire Hathaway, the investment firm led by Warren Buffett. Munger has been a strong advocate of compound interest throughout his career, and he credits it as one of the key factors in his success. In his book "Poor Charlie's Almanack," Munger writes about how he learned to think about investing in terms of compounding his returns over time. He has famously said, "The first rule of compounding is to never interrupt it unnecessarily." Munger's net worth is estimated to be over $2 billion, much of which has been generated through his investments in Berkshire Hathaway.
These are just a few examples of how compound interest has helped some of the most successful investors in history build their fortunes.
There's a famous quote often attributed to Albert Einstein that goes like this: "Compound interest is the eighth wonder of the world. He who understands it, earns it; he who doesn't, pays it."
While there is some debate about whether Einstein actually said this, the sentiment behind it is certainly true. The power of compound interest can be incredibly beneficial for those who understand it and use it to their advantage. On the other hand, those who don't understand compound interest can end up paying a high price, such as accumulating debt that grows quickly over time. It's important to understand the concept of compounding and use it wisely to help build wealth and achieve financial goals.