Are you missing out on the power of compounding?

Whether you’re contemplating saving for a house, retirement or just a rainy day, you’ve heard that the sooner you start, the better. And it’s true. All else equal, the more time you give yourself to save, the better the chance you’ll have of achieving your goals.

But the rationale behind this is not just that you’ll have more earnings coming in from which to save. It’s also because you’ll give your savings more opportunity to grow.

Let’s consider two scenarios when you save and invest $2,000 on your birthdays only:

1. Early starter

You start investing on your 19th birthday for the next ten years only, and not a single cent afterwards. That equates to ten investments, a total contribution of $20,000.

2. Late starter

You start investing on your 29th birthday until you turn 65 years, a total contribution of $72,000.

Let’s assume that the rate of return on your investment (ROI) is 10% per annum. This assumption seems a bit too optimistic, however, when you look at historical returns of share markets or property markets, it is very reasonable.

Surprisingly, when you start early, you would end up with more money in your portfolio in the long run. At the retirement age of 65, the late starter would have a final balance of $726,087, while the early starter would have $1.19 million ($1,192,258 to be precise), a whopping difference of more than $466,000 or 64%.

Effectively, the sooner you start putting your money to work, the more you’ll benefit from the compounding effect and the less you’ll have to save to reach your retirement goals.

What exactly is compounding, you may ask?

Compounding is the process of the exponential increase in the value of an investment due to earning a return on both principal and accumulated returns.

In simple words, compounding is the financial equivalent of a snowball, rolling down the hill and gathering momentum as well as weight. More the ball rolls down, more mass it gathers in terms of the snow that get attached to it and more its impulse increases. By the time it reaches down the hill, it can well translate into a small avalanche. 

Albert Einstein once seems to have remarked that the most powerful force in the universe is compound interest.

The bottom line is that the power of compounding helps you to save more money. The longer you invest, the more return you earn. So start as soon as you can.