In the high-tech world we live in, it’s astonishing to think that a simple mathematical formula dating from the 15th century may still be useful to investors. It’s called the Rule of 72.
If you’re not familiar with the Rule of 72, it tells you how long it would take to double the money you’re investing or what return you’ll need to double your money during a specified time period. Either way, the magic number is 72.
The best way to explain this rule is to look at a couple of examples. (Keep in mind that the figures in these examples are hypothetical and don’t reflect any actual investment. The returns you earn will depend on market conditions.)
Example 1. Suppose you expect to earn an 8% after-tax compounded return on a $10,000 investment. Simply divide 72 by the 8% rate of return to determine that it will take nine years to double your investment to $20,000.
Example 2. Now let’s say you want to double your investment to $20,000 in no more than 10 years. To find the rate of return required to do that, divide the magic number 72 by 10. This shows that you’ll need an after-tax compounded return of 7.2% to achieve your goal.
Of course, you should not use the Rule of 72 to replace in-depth investment planning. But it certainly can give you a back-of-the envelope answer in a hurry.
This article was written by a professional financial journalist for KDM Investment Management Inc and is not intended as legal or investment advice.