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The Magic of Compounding

manhattan1Most people accumulate wealth as a result of compounding interest and I believe the best compounding investment is the stock market (as long as you have a long enough time horizon and can withstand the volatility).  But it's also important to save early and save often.  By way of example, let's compare the compounding of interest for two very different investors: Investor Early and Investor Often.

Investor Early invests $2,000 per year in an IRA for eight consecutive years beginning at age 19, then stops.  Investor Often waits until age 27 to begin investing but invests $2,000 per year in an IRA for 39 consecutive years - all the way until age 65.  Both investors earn 10% per year (the long-term average return for stocks).

Through the magic of compounding, Investor Often's $78,000 of IRA contributions grew to $805,185 at age 65. But even though Investor Early contributed only $18,000, Investor Early's IRA had grown to $1,019,160 by age 65!

One of the most classic examples of the virtues of compounding was when the Dutch purchased Manhattan Island from American Indians in 1626 for 60 guilders (or about $25 at today’s exchange rates).  Of course, the age old question is: Who got the better deal, the Dutch or the Indians?  If the Indians had invested in an IRA with a mix of stocks & bonds (which have yielded a total return of 7.9% annually), $25 worth would today be worth $179 trillion.  That is enough to purchase not only all of real estate in New York City, but also all of the real estate in the U.S. and still have enough left over to purchase all the stocks listed in the U.S,!

Don't wait until tomorrow.  Save today.

Stacey Wall serves as Chief Executive Officer of Pinnacle Trust.  You can reach him by emailing Stacey at swall@pinntrust.com or by calling the office at 601-957-0323.