Ep #042: How Compound Interest Can Multiply Your Wealth

Introduction

"There's a reason the great Albert Einstein once said: Compound interest is the eighth wonder of the world. He who understands it, earns it…he who doesn’t…pays it." Today I want to illustrate how compound interest works, why it is so important to get started much sooner than later, and how owners and entrepreneurs can take advantage of this concept and build wealth outside of their business."

How much would you have if a penny doubled every day for 31 days?

"I have a question for you. Would you rather have a penny doubled every day for 31 days or $1 million dollars? Many would just take the million dollars. But…Can you guess how much you would have if you had a penny double every day for 31 days? How much do you think you’d have on day 31? Seriously think of a number. On day 31 you would have a little over $10,737,400 dollars. Over 10 million dollars! That's the power of compounding. In the beginning, it's very slow. Seven days in, you'd only have a whopping $0.64 But on Day 15 Things start to get interesting and you now have $163.84. On Day 18 $1,310.72 Day 20 $5,242.88 On Day 28 is when You break a million and you have $1,342,177.28 Finally on Day 31 you arrive at $10,737,418.00 dollars. Completely mind-blowing, isn’t it? Now question number 2 I have for you is can you guess how much you would have if you missed out on the first week of compounding? You would only have 41,936. Less than 1% of what you would have if you didn’t miss that week. That means over 99% of your return can be attributed to the first week, meaning if you don’t get started and go through the very slow period in the beginning, you miss out on the crazy returns on the back end."

The value of compounding interest

"This is the way investing works and part of any good exit strategy is to make sure as a business owner and entrepreneur you are building and growing wealth outside of your business understanding that it takes time, meaning years to see the exciting returns on the backend. The earlier you start the process, the sooner you get through the "slower compounding" in the beginning. In many cases, entrepreneurs and business owners are waiting for the new and sexy thing to invest in whether it’s bitcoin, real estate, a private equity deal or there constantly being pitched ideas on ways to make money, and they are usually very high-risk ideas, and not aligned with their risk tolerance and target allocation when in reality just start with an investment account. Start with your 401k, if you have a 401k, increase your contribution, and put money into a SEP IRA if you have these set up for your business, it could be a brokerage account, traditional ira, or whatever type of an account, the point is to start the process."

Example of how compounding interest works with investments

"The next part is to make sure it’s invested but then automate the process of moving money into the account without you having to do anything. Many 401k plans allow you to set this up as well as any bank or brokerage firm where you hold your investment accounts. That way once you set up auto-deposit you can set it and forget it and let it grow and invest on its own. Let’s take the 401k plan as an example. Not only can you put your money away to save as an employee, but your business can provide a "company match” and also add money to your account and you receive compounding interest on all of it! This allows business owners to stash away a ton of money, especially when you add additional layers into the plan like profit sharing or a defined benefit plan. Whether it's $50, $100, or $500 or more a paycheck, the point is to put away SOMETHING on a CONSISTENT basis and then AUTOMATE it so you can let COMPOUNDING do its magic. Do not wait and make sure you take advantage!"