Compound interest or the interest on interest is almost a magical thing that you need to use to keep your investments growing. Whether you keep your money in a savings account, invest in the capital markets, or in any other way where you get the interest returns on your investment, you must have a working idea of compound interest to take control of your financial future. After reading this article, you will wish that you had known about this earlier because the time invested is the most important factor for the end result. There’s a good reason why Albert Einstein himself termed compound interest as the 8th wonder of the world and one of the most powerful forces in the universe. Compound interest lets your savings and investments grow by themselves whether you eat or sleep. With compound interest, your money will work for you and grow exponentially like the snowball effect.
To understand compound interest, you first have to understand simple interest. Let’s understand this with an example:
Meet Ram Kumar and Sita Kumari, who both are 30 years old and want to invest for the next 30 years to get attractive returns for their old age pension. Ram Kumar has 1 Lakh rupees and he will get 10% interest each year which amounts to Nrs, 10,000 per year. Every year Ram Kumar withdraws this interest from his account. After 1 year of investment Ram Kumar now has 1 Lakh 10,000 rupees with him. In the second year, he again gets NRS 10,000 as interest and now he has 1 Lakh 20,000 rupees. Same goes for 3rd year and after 30 years of investing, Ram now has a total of 3 Lakh as interest and his initial investment of 1 Lakh rupees totaling to 4 Lakh rupees.
Sita Kumari also invests 1 Lakh rupees as Ram Kumar did and also receives 10% interest rates on her investment every year. Sita Kumari, with the knowledge of compound interest, doesn’t withdraw the interest amount yearly as Ram does. After 1 year, she gets Nrs 10,000 interest same as Ram but deciding not to withdraw the amount, she adopts the principal of compound interest. She now has Nrs 110,000 as her investment after 1 year. For the second year, she now receives Nrs 10,100 as interest on her total investment of Nrs 1 Lakh and 10,000, and her total investment rises to Nrs 1 Lakh and 21 thousand and for the third year, she receives an interest of Nrs 12,100 on her total investment of Nrs 1 Lakh 21 thousand which makes her total investment Nrs 133,100. As time passes, her interest increases each year and she not only receives interest on her initial investment but also on interest earned in previous years. This phenomenon is known as compound interest. At the end , Sita has a total of more than 17 lakh rupees accumulated as compared to Ram’s total of 4 Lakh.
As you can see, with compound interest, the investment of Sita Kumari grows exponentially. The more interest the investment generates, the faster it grows and here time is your best friend. Sita’s investment as compared to Ram’s doubled in 9 years and it took only another 4 years to grow her investment by 3 times. The process of doubling is now faster as the wealth accumulates and earns more interest. Ram doesn’t get the same snowball effect compared to Sita as his money grows linearly.
How often do you have a cup of coffee at your local café? Or have lunch at your favorite restaurant? A cup of coffee that costs Nrs 250, compounded for 30 years is worth over Nrs 4,000 and your favorite lunch that costs Nrs 500 will be worth over Nrs 8,000 if you have invested it. We are not saying that you should not buy coffee or lunch but it’s good to be aware so that you can make financial decisions smartly and have control over your needs and wants.
As you already witnessed above, the interest rate in which your money compounds, plays a crucial role in doubling your investment as time goes by. By making it easy for you to find the best deposit rates through unbiased comparisons, we empower you to make the best investment decision by making it easier for you to find the best deposit rates through unbiased comparisons and recommendations. Using our easy to use interface, you can be assured that you are provided with the best deals that the financial market in Nepal has to offer.
Next time when you get that fancy smartphone, that fast bike that you always wanted, or think of buying something, always make sure to understand your investment cost. If that investment is snatching your financial freedom in the long run, avoid such mistakes and invest your money smartly instead to reap the benefits of compounding Interest.
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