Unlock the 8th Wonder of the World: The Magic of Compound Interest

Do you know there are how many wonders in the world? Well, the definite answer would be 7 wonders. But according to the legendary scientist Dr. Albert Einstein, there are 8 wonders in the world. I know, at this point you might be contemplating and confused at the same time. You might have picked up your phone and opened google search to verify this statement. Wait? Google search only shows 7 wonders in the world only. Well, you are absolutely right but according to Dr. Einstein the 8th wonder of the world is “Compound Interest”. He said “he who understands it, earns it; he who don’t understand it, pays for it”. I know, you might be confused and curious at the same time. Well, let me tell a small story on the concept of “Compound Interest”.

The story of the generous king:

The king of Ambalappuza was a chess enthusiast. He often used to challenge visitors to play chess with him and in return he granted any treasure or prize, the visitor wanted if they achieved victory over him. He was very generous and rich. He also did a lot of philanthropy work. Once God Krishna appeared in the form of a sage in his court and challenge him to a game of chess. The king right away accepted his challenge and asked him about his wish before the game begins. The sage had a very modest request. He told him that as a man of very few material needs, he wished for a few grains of rice. But he put one condition, the amount of rice would be determined using the chess board in the following manner. He told, one grain of rice should be placed on the first square, two on the second square, four on the third square, eight on the fourth square, 16 on the fifth square and every square will have double the quantity of grains from the previous square. The king thought, it’s a fair deal and he was happy to comply. Unfortunately, the king had lost the game to the sage. It was now time to fulfill his promise. As the king started to count the grain of rice, he soon realized the nature of the sage’s demand. Soon his royal storage ran out of grains. He got very demotivated and realized that he will never be able to fulfill his promise. As the number of grains increased with each square, the total amount of grain required to fulfill 64 squared chess board would be 18,446,744,073,709,551,615 grains, totaling into billions of tons of rice.

Exactly this is how compound interest works in real life. Indeed Dr. Einstein was not wrong. It is indeed the 8th wonder of the world.

Understanding Compounding and its importance:

If I explain in simple terms, compound interest refers to the returns you earn on your principle and reinvested returns on your principal amount. Well, let me explain you with some numbers. Suppose you have invested Rs. 1000 and it earns a return of 12% (Rs. 120) after one year, then your total invested amount will become Rs. 1,120 at the end of first year. Now in the second year, suppose your invested amount (Rs. 1,120) earns a return of 12% (Rs. 134), then your total invested amount will become Rs. 1,254. If you continue to hold the investment on to the end of third year and earn a same interest of 12% (Rs. 150), your investment will now become Rs. 1404. If you have noticed, each year as the invested amount grows, the return amount also grows although the return percentage remained the same. It is just like the story of the rice grains. In the first year the return was 12% on the invested amount which was Rs. 120. In the second year the return was 12% on the invested amount which was Rs. 134 (Rs. 14 excess from the 1st year). In the third year the return was 12% on the invested amount which was Rs. 150 (Rs. 16 excess from the 2nd year). So, as the numbers suggest, as your investment grows, you earn exponential returns in the long term.

Let’s look into the following table:

As evident from the above example, the effect of compounding plays a very important role in growing your wealth over time. Suppose you start investing Rs. 1000 every month when your child is born, till the time he is 20yrs old, your investment would have become Rs. 9.9lakh (assumed return of 12%). You could give that amount to your child and teach him about the story of compounding you witnessed through these 20yrs period. This will not only support your child financially but also motivates him/her about investing and taking the advantage of compounding in their financial journey.

Some important factors to remember about compounding:

Starting early: Start your investment journey early as the more time you will give to compounding, the more it will give you back.

Staying Disciplined: Stay disciplined with your investment journey. Don’t get affected by any short-term disturbances, always focus on your long-term objectives. It is very important to stay invested for maximum results.

Building Patience: Investing is a marathon and not a sprint. The one who stays invested for long will gain the most. After a certain time, the returns will be exponential, like the rice grain and chess board story.

If you are still confused and want to learn more about the magic of compounding, consult a finance professional for better understanding. Always remember, the more time you delay, the more you will lose out on the power of compounding. Start early and stay invested.