The secret sauce to growing your money: Compounding interest
Albert Einstein is often quoted as saying, “Compound interest is the eighth wonder of the world. He who understands it, earns it. He who doesn’t, pays it.” Big words, but what does it actually mean? Let’s break it down.
What is compounding interest?
Compounding interest is when your money earns returns, and then those returns also start earning returns. Instead of just growing in a straight line, your money starts to snowball.
Think of it like planting a fruit tree. In the first year, you might only get a few pieces of fruit. But as the tree grows, it produces more branches, which means more fruit every year. The earlier you plant it, the bigger and more productive it becomes.
Why it helps.
Compounding is powerful because it rewards consistency and time. You do not need a big lump sum to start. Even small amounts can grow into something significant if you give them enough time to compound.
It works best when:
- You start early, even with small amounts
- You leave your money invested and resist pulling it out too soon
- You add to your investments regularly so the snowball keeps getting bigger
Everyday examples.
Let’s say you invest $1,000 and it earns 7 percent a year. After one year, you have $1,070. In the second year, you earn returns not just on your first $1,000, but also on the $70 you gained. That gives you $1,144.90. Keep this going and in 10 years, your $1,000 could grow to almost $2,000.
Why it beats saving alone.
If your money sits in a low-interest savings account, it will still grow a little, but it often won’t beat inflation. Compounding works best when your money is invested where it can earn higher returns over the long run, like in a diversified investment portfolio.
The bottom line
Compounding interest is the secret sauce of wealth building. It is not about chasing quick wins, it is about letting time and consistency do the heavy lifting. The earlier you start, the bigger the impact.
As Einstein said, understanding compounding is one of the smartest financial moves you can make.
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This blog has been issued by Instreet Investment Limited (ACN 128 813 016 AFSL 434776) as Responsible Entity of the Raiz Invest Australia Fund (ARSN 607 533 022) and has been prepared without taking into account your objectives, financial situation or needs. Before acting on such information, you should conduct your own review or consult a financial advisor before making a decision to invest. Please read the relevant Product Disclosure Statement and any associated reference documents before making an investment decision. In accordance with the Design and Distributions Obligations, we maintain Target Market Determinations for our Funds. All documents can be found on the Raiz website www.raizinvest.com.au, or calling the Customer Support team on 1300 754 748. Please note that past performance is not a reliable indicator or guarantee of future performance. Historical returns, forecasts, and market commentary are provided for general informational purposes only. All investment carries risk and may result in loss of capital.
