The process wherein one computes interest on the total sum of the principal interest and accrued interest from a loan or deposit is called compound interest. It is simply explained as an ‘accumulated interest from an interest’.
To elaborate the meaning, when you reinvest a certain amount you gained, you get to generate more either from the same company if you reinvest rather than withdrawing or from another if you withdraw and invest anew. Through this continues process, your opening investment may grow swiftly day by day. This is one good way to explain to new investor why they should start as early as possible.
Below are some of the most well-known illustrations of ‘Compound Interest:’
Vanguard 500 Index
Another example of the benefits of compounding is the popular Vanguard 500 Index fund (VFINX) held for the 20 years ending February 28, 2017.
A $10,000 investment on that February 28, 1997 day would have grown to a value of $42,650 at the end of the 20-year period. Assuming that fund distributions like dividends, interest or capital gains was reinvested back into the fund.
Without reinvesting the distributions, the value of the initial $10,000 investment would only have grown to $29,548 or 69% of the amount reinvestment.
An investment of $10,000 in the stock of Apple (AAPL) on December 31, 1980 would have grown to $2,709,248 as of the market’s close on February 28, 2017. This translates to an annual return of 16.75%, including the reinvestment of all dividends from the stock.
Apple started paying dividends in 2012. Even so, if those dividends hadn’t been reinvested, the ending balance of this investment would’ve only been $2,247,949 or 83% of the amount invested.
You may also want to consider holding a certain investment in a period of time. You can estimate how much capital fund you need to invest and grow in a certain year span even without withdrawing. Giving you below some illustrations for an idea.
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