Over the years, we’ve been asked by clients to help their kids or grandkids establish good financial habits and understand important financial principles. One such principle essential for financial success is understanding the power of compound interest. We know we’re preaching to the choir.
There’s a reason that Charlie Munger said, “The first rule of compounding is to never interrupt it unnecessarily.” Here’s why. Let’s say an investor starts with a penny and by some magical ability, they can double its value every day for a month straight. How much do you suppose that penny would be worth at the end of 31 days? Here’s what the first 10 days look like.
| Day | Amount |
| 1 | $0.01 |
| 2 | $0.02 |
| 3 | $0.04 |
| 4 | $0.08 |
| 5 | $0.16 |
| 6 | $0.32 |
| 7 | $0.64 |
| 8 | $1.28 |
| 9 | $2.56 |
| 10 | $5.12 |
Knowing what you know so far, would you rather have $1 million or continue doubling this penny’s value for another three weeks?
Let’s continue…
| 11 | $10.24 |
| 12 | $20.48 |
| 13 | $41 |
| 14 | $82 |
| 15 | $164 |
| 16 | $327 |
| 17 | $655 |
| 18 | $1,310 |
| 19 | $2,621 |
| 20 | $5,242 |
| 21 | $10,485 |
| 22 | $20,971 |
| 23 | $41,943 |
| 24 | $83,886 |
| 25 | $167,772 |
| 26 | $335,544 |
| 27 | $671,088 |
| 28 | $1,342,177 |
| 29 | $2,684,354 |
| 30 | $5,368,709 |
| 31 | $10,737,418 |
You read that right. A penny that doubles in value every day turns into $10.7 million after 31 days.
When viewed graphically, the power of compounding takes on the shape of a hockey stick.
Now, in real life it takes longer than a day to double your money, but what’s fascinating about this “compound-interest-on-steroids” example is how it goes from $5,242 to $10.7 million in only 11 days. The takeaway is that once you hit a critical mass, the doublings really start to add up quickly. But getting to that critical mass can take a long time, which means consistency, discipline, and patience are essential to investment and financial success.
The concept of compounding goes beyond finance. Athletes, performers, and entrepreneurs are often labeled an overnight success, but there is no such thing. Most of the time the work has been done in the dark, often for years, before an individual gets their big break or bursts onto the scene. Then suddenly, their success appears out of nowhere. But Amazon founder Jeff Bezos sums this up well, “All overnight successes take 10 years.”
The growth of Chinese bamboo, the stonecutter’s credo, John Wooden’s UCLA basketball teams, Jim Collins’ flywheel…they’re all examples of compounding.
The fuel needed for compounding is time. The more time that passes, the more compounding occurs. Since we started with a Munger quote, let’s finish with a Buffett statistic. Over 90% of Warren Buffett’s net worth has occurred since his 65th birthday. This shows why compounding is a bedrock principle of success, financial or otherwise.
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Pittenger & Anderson, Inc. does not provide tax, legal, or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal, or accounting advice. You should consult your own tax, legal, and accounting advisors before engaging in any transaction. Additionally, the information presented here is not intended to be a recommendation to buy or sell any specific security. To learn more about our firm and investment approach, check out our Form ADV.
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