The Power of Compounding – $1 Million Now or Penny Doubling for a Month

24 comments

I recently saw a very interesting video that asked a number of regular people if they would rather have a million dollars now or take a penny now and double the amount every day for the next 30 days. As expected, 90% of people chose the million dollars now option. I would have made this choice myself a few years ago. But this would have been the poorer choice, because you would have short changed yourself by over $4 million at the end of  the 30 day period. Don’t believe me? Look at penny table calculation on the right. The simple act of doubling your previous day’s investment can rapidly reap huge rewards thanks to the powerful concept known as compounding.

Power of Compound InterestNow a 100% return every day is highly unlikely, but the principle of compounding holds true for even smaller returns (though it will take longer than a month to make your fortune). This is why compounding is a core aspect of good personal finance and the reason why the rich get richer. As outlined in Kiplinger, when you’re young, you have an asset money can’t buy: TIME. Start saving now and turn pocket change into riches. Compound interest has been called the eighth wonder of the world. And with good reason. It magically turns a little bit of money, invested wisely, into a whole lot of cash. Even Albert Einstein is said to have called it one of the greatest mathematical concepts of our time.

But you don’t need to be a genius to harness the power of compound interest. Even the most average of Joes can use it to make money, without having to know the theory of relativity.

Here’s the gist which you can clearly see in the penny table: When you save or invest, your money earns interest, or appreciates. The next year, you earn interest on your original money and the interest from the first year. In the third year, you earn interest on your original money and the interest from the first two years. And so on. It’s like a snowball effect – roll it down a snowy hill and it’ll build on itself to get bigger and bigger before you know it.

To make compounding work for you follow these three basic principles:

1. The sooner you start, the better. Compounding is a function of the return you get and time. For most people a 3 to 7 percent is realistic, but time is a diminishing commodity. So the younger you are, the more time you have to really make compounding work for you, and the wealthier you can become. The next best thing to starting early is starting now. Consider this example: Amy, a 22-year-old university graduate, saves $300 per month into an account earning 10% per year for 6 years. Then at age 28, she starts a family and decides to stay home with the
children full time. By then, Amy had kicked in $21,600 of her own money. But even if she doesn’t contribute another cent ever, her money would grow to a million bucks by the time she turned 65!

2. Make regular investments. Especially via a tax advantaged 401K or IRA plan or in a good high yield savings account for your post-tax savings. Remain disciplined, and make saving a priority. The more you save, the more you can let compounding work its magic. Even a little bit goes a long way, and you can start with as little as $20 a month.

3. Be patient. Compounding only works if you allow your investment (capital) to grow. It takes time to see the wonders of compounding returns, and as you can see in the penny table the most growth comes at the very end. Compounding creates a snowball of money and you will get rich if you start young, invest wisely and leave your money alone over the long term.

Related:
~ 5 Steps to Take Now in Preparation for Double Digit Inflation
~ 10 ways to Quickly Improve Cash Flow by Creating Passive Investment Income
~ The “Must Have” Second Career For Everyone

Leave a Reply

24 Comments on "The Power of Compounding – $1 Million Now or Penny Doubling for a Month"

BJ HAWN

Ello my name is BJ HAWN, I like cheese, yes big hawnny, yes that’s my name

Ami

What I want to know is where someone would get 10,000 pennies?

Kitten

Sorry Andy, but that’s not correct. The answer is $10,737,418. You double the penny the following day, (which would be day one). So you would have 2 pennies on day one; 4 on day two; 8 on day three; 16 on day four…so on and so forth… (2^30).

Sunny

He says take a penny now and double it every day for 30 days. Day 2 is a day away from day 1. He is correct….it’s not his math…it’s your reading.

Don

Makes it hard to trust a guy on financial advice when they can’t do math….

encore

You are an ass
Don-key

My assumption is that on day one you get the one penny, and it doubles from day 2. The math works either way…with the point being to illustrate the power of compounding.

Sophia Bartlow

What u say is true in a way but my dad is a financial advisor and he has told me a lot more and I honestly don’t really agree with u.

[…] your 401K, then try and get to the maximum limit. The earlier you start, the better thanks to the power of compounding. Also, starting an IRA is very cheap thanks to low cost offerings from online […]

[…] your 401K, then try and get to the maximum limit. The earlier you start, the better thanks to the power of compounding.  For effective post-tax saving, set up an automatic deduction to a high yield savings account […]

[…] like my retirement accounts, my after-tax investing strategy is also passive. I will review and re balance (if needed) on a quarterly basis, but will not be taking an overly […]

Arthur Kerouac

…and this Orland, is why you will never have any money

[…] you should start early- Compound interest. Just as it can work negatively if you carry high interest debt, compound interest can turn modest […]

christo930

The answer here is wrong, you wont get 5 million dollars, you will get over 10 million
2 to power of 30 is
1,073,741,824
divided by 100 (a dollar)
10,737,418.24
The mistake he made is he is only counting the last payment of 5 million and change, he is forgetting about the other 29 payments that were made to you. So you aren’t getting 4 million dollars more than the one time million dollar payment, you are getting almost 10 million more than the million dollar payment.

[…] compound interest daily, rather than monthly or quarterly like some other big banks. The more often interest is compounded, the faster it grows. They also have the leading Certificate of Deposit (CD) offering which is good […]

[…] more small step to my workout, so that eventually I will have accomplished my goal. Check out this article on penny doubling if you don’t believe […]

[…] year, she would receive $5200*1.04 = $5408.  Earning interest on past interest, shows the power of compounding (return is 9% on original sum, vs 8% if we started with 5000 every year). 9. B 10 C. When you buy […]

[…] Mr. and Mrs. Not Made Of Money is an interesting budgeting/financial blog.  I’m all about saving money this year.  Here is an interesting article on the power of compounding. […]

Jamie Anderson

In my youth I would have been tempted to go for the “million dollars” option. But, back then I didn’t understand compound interest. Compound interest can be effective, but it does depend on so many variables, e.g. the rate of inflation, interest rates, the amount saved and over how long. Unfortunately the answer is never black and white.

orland
It’s amazing! It is a great illusion, assuming you understand the full meaning of the word illusion. First of all, that table that you have shown has nothing to do with compound interest, or by extension, the power of compounding! The power of compounding, on the other hand, is the greatest of all the illusions ever invented by human kind. I can see that your intentions are good. And the idea of encouraging people to save for a better future are indeed honorable! But, why use examples that are sub real? Why bring names of people like Albert Einstein into the equation? I also read somewhere that he said “…the power of compounding was said to be deemed the eight wonder of the world…” If that is true, the question then would be: why did he use the verbs in its past tense? Is it because he realized towards the… Read more »

[…] by andys2i Nothing is more significant over the long term from a financial planning aspect than ensuring you are setting aside and investing a sufficient amount to take care of your monetary needs in retirement. This can be easy to put off, especially if retirement is far away and taking care of your personal finances is low on your already long to-do list. However the earlier your start the better off you will be. Every year you delay saving for retirement could know tens of thousands of your final nest egg because you miss out on the magic of compounding. […]

[…] $14,222 at a public four-year college. So early tax-advantaged saving coupled with the benefits of compounding make investing in a 529 plan a smart financial move. There are two main types of 529 plans, prepaid […]

[…] account. While I like the features of the checking account, it was not making my business savings work for me. So after receiving a promotional offer from ING  I decided to sign up with them because as an […]

[…] easy access to your money via check card with no ATM fees at any ATM in the country. The more often interest is compounded, the faster it grows. They also have the leading Certificate of Deposit (CD) offering which is good […]

wpDiscuz

Previous post:

Next post: