The Beast……Compound Interest

Irrespective of any field of study one thing that remains common is..…..Importance of basics.

So, let’s start with some basics…

What is an investment?

An action with the intention of getting something ‘more’ than what is being invested at the end of stipulated time period.

This ‘more’ is known in financial world as Interest.

It’s the extra money paid for the use of money for a time period and is denoted as percentage of the original investment.

For example:
You invested 100 in a bank and got 110 after 1 year. In this case that percentage is (110-100)/100 i.e. 10%

Now after one year you will have 110.
Where 100 is your original investment and 10 is Interest.

If you decide to keep it invested then after 2 years it will become
110+110* 10% i.e. 121
[here extra 1 is what Interest of first year(i.e. 10) earns]

“The money that money earns, earns money”
— Ben Franklin

When you earn interest on interest it is “Compound Interest”.

You have to see the Power of Compound Interest to fully appreciate it……and nothing illustrates it better than this famous story…

In the early 1600 s, the American Indians sold an island, now called Manhattan in New York, for various beads and trinkets worth about $16. Since Manhattan real estate is now some of the most expensive in the world, it would seem at first glance that the American Indians made a terrible deal.

Had the American Indians, however, sold their beads and trinkets, invested their $16 and received 8% compounded annual interest, not only would they have enough money to buy back all of Manhattan, they would still have several hundred million dollars left over (actually….whopping $222 trillion more than the current value of Manhattan).

That is the power of Compound Interest over time.

“Compound interest is the eighth wonder of the world. He who understands it, earns it … he who doesn’t … pays it.”
           ― Albert Einstein

Amazing…..right?

We‘ll try to figure out how this extra money known as Interest is generated with just the passage of time…..…Stay Tuned

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