The Magic of Compound Interest: How Time Creates Wealth

What Is Compound Interest?

Compound interest is a method where interest accrues not only on the principal but also on previously earned interest. It's said Einstein called it the 'eighth wonder of the world' because of its powerful long-term effects.

Simple interest accrues only on the principal. Depositing 10 million won at 5% simple interest for 10 years yields 5 million won in interest, totaling 15 million won.

Compound interest tells a different story. Since interest is added to principal each year, after 10 years you'll have about 16.29 million won. After 20 years, the gap widens further: simple interest 20 million vs compound interest 26.53 million won.

The Compound Interest Formula

The basic compound interest formula is A = P(1 + r/n)^(nt). A is the final amount, P is principal, r is annual rate, n is compounding frequency per year, t is time in years.

For monthly compounding n=12, daily n=365. Shorter compounding periods result in slightly larger final amounts. However, actual differences are small - monthly vs annual compounding difference is often less than 1%.

For regular investment (saving a fixed amount monthly), calculations become more complex. TheWebGyver's compound interest calculator supports both lump sum and regular investments, handling complex calculations automatically.

How to Maximize Compound Effects

Time is most important. Comparing someone who invested monthly from age 25 to 35 (10 years) versus someone who invested the same amount from 35 to 65 (30 years), at 7% annual return, the former ends up with more assets.

Return rate matters too. While 5% vs 7% annually seems small, results differ significantly after 30 years. However, higher returns come with higher risk, requiring balance.

Consistency is key. Rather than delaying investment trying to time the market, starting immediately and investing consistently produces better long-term results.

The Rule of 72

The Rule of 72 is a quick way to calculate how long it takes to double principal with compound interest. Divide 72 by the annual rate to get the approximate time.

At 6% annual return, 72 ÷ 6 = 12 years; at 8%, 72 ÷ 8 = 9 years. Not exact, but useful reference for investment planning.

Conversely, you can calculate required return rate to double assets within a target period. To double in 10 years: 72 ÷ 10 = 7.2%, meaning about 7% or higher return is needed.