Rule of 72

Rule of 72§

The Rule of 72 is a handy mathematical concept often used by investors, financial planners, and analysts to estimate how long it will take for an investment to double given a fixed annual rate of return with compound interest. The formula is straightforward:

$$\text{Years to Double} = \frac{72}{\text{Annual Interest Rate}}$$

Examples§

1. Certificate of Deposit (CD):

   • Principal: $1,000
   • Annual Interest Rate: 6%
   • Calculation: $72 \div 6 = 12$ Years
   • Result: The $1,000 investment will double to $2,000 in approximately 12 years.

2. Stock Market Investment:

   • Principal: $5,000
   • Annual Interest Rate: 8%
   • Calculation: $72 \div 8 = 9$ Years
   • Result: The $5,000 investment will double to $10,000 in approximately 9 years.

Frequently Asked Questions§

Q1: Is the Rule of 72 accurate? A1: The Rule of 72 is an approximation. It is most accurate for interest rates between 6% and 10%, but can still be useful for other rates with minor adjustments.

Q2: Can the Rule of 72 be used for any kind of investment? A2: The Rule of 72 is generally used for investments that earn compound interest. For investments earning simple interest, this rule does not apply accurately.

Q3: What happens if interest is compounded more frequently, like quarterly or monthly? A3: While the Rule of 72 is designed for annual compounding, it can still give a rough estimate. For more frequent compounding, the actual doubling time might be slightly shorter.

Q4: Is there a similar rule for tripling time? A4: Yes, the Rule of 114 can be used to estimate the time required to triple an investment. Simply divide 114 by the annual interest rate.

Q5: How is the Rule of 72 derived? A5: The Rule of 72 is derived from the logarithmic relationships in compound interest formulas. It simplifies the time-value calculations involving natural logarithms to a more digestible figure.

Related Terms§

• Compound Interest: Interest calculated on the initial principal, which also includes all the accumulated interest from previous periods.
• Principal: The initial amount of money invested or loaned.
• Annual Percentage Rate (APR): The annual rate charged for borrowing or earned through an investment, expressed as a percentage.

Online Resources§

• Investopedia: Rule of 72
• Khan Academy: Compound Interest and Exponential Growth

References§

1. “The Mathematics of Compound Interest” by Peter L. Bernstein
2. “Personal Finance For Dummies” by Eric Tyson

Suggested Books for Further Studies§

1. “The Intelligent Investor” by Benjamin Graham
2. “Rich Dad Poor Dad” by Robert T. Kiyosaki
3. “A Random Walk Down Wall Street” by Burton G. Malkiel
4. “Your Money or Your Life” by Joe Dominguez and Vicki Robin

Real Estate Basics: Rule of 72 Fundamentals Quiz§

This content details the financial concept “Rule of 72” and includes examples, related terms, online resources, suggested books for further study, and a comprehensive quiz for review.