Learn Stock Market Investing

This blog is all about investing, more specifically about investing in the stock market. However before we go into stock market investing proper, I would like to discuss a concept that could blow your brains away. (Just figuratively though not literally hehehe)

When I first heard about the Rule of 72, it just blew my mind! That was one of the defining moments of my life. In future post, I will tell you later on about the story of my journey to financial freedom.

I teach business law at one of the schools here in Cebu. Before I discuss the Corporation code, I give a little bit of introduction on the Rule of 72. Every time I give out this discussion, it never ceases to surprise me how students are amazed at this simple yet very important and profound concept.

Albert Einstein once said “The most powerful force in the universe is compound interest.” The rule of 72 is simply compounded interest expressed simply and mathematically.

Some people would even go to the extent of saying that Albert Einstein’s greatest discovery was not the theory of relativity, but rather it was the Rule of 72. There are those who say that the rule existed long before he was born. However most would agree that he was the one who popularized it.

So what is the Rule of 72 and why do I consider it as the foundation of all investing?

The Rule of 72 is important because it helps you determine the following:

1.) What is the interest rate that you need to have in order for your money to double quickly.

2.) In how many years does it take for your money to double.

To determine this simply divide 72 by a given interest rate. The result is that you get the number of years it takes for your money to double. Mathematically, the Rule of 72 can be stated as follows:

n = 72 / i

Where n = the number of years it takes for money to double and i = the interest rate.

In order that you can understand this more clearly, let me give you an example, if you put P 100,000.00 in a bank account, it will take 72 years for your money to become P 200,000.00 since the bank only offers a 1 % percent interest rate. (72 / 1 = 72)

Since ordinary savings account offer a very low interest rate, let’s say you put your money in a time deposit account. Time deposits in the Philippines  have an average of about 4 % interest per annum. So if you put P 100,000.00 in a time deposit account it will approximately take 18 years in order for your money to become double or become P 200,000.00 (72 / 4 = 18)

Imagine if you put your P 100,000.00 in an investment vehicle that would give you a 12 % interest rate. This time it will only take 6 years for your money to double (72 / 12 = 6)

Now let me give a word of caution. Since the Rule of 72 is only an approximation, it is more accurate if you apply the formula using low interest rates. If you use this formula using high interest rates, the higher the interest rates, the more inaccurate the Rule of 72 becomes. For example if you have P 100.00 and you put it in an investment vehicle that gives you 72 % interest rate per annum, according to the Rule of 72 your money will double, that is it will be P 200.00 in 1 year. However if you think logically and do the math, this is not entirely accurate since you will need a 100 % interest rate in order for it to become P 200.00 in 1 year time. Anyway, this is just a little caveat. Nevertheless, the Rule of 72 is very useful to illustrate the power of compounding interest. Not only is the Rule of 72 useful in this area, the Rule of 72 can also be used to manage debt wisely. I will write more about this in future post.

If you want to know how many years it would it take triple your money, you can use the cousin of the Rule of 72 which is the Rule of 115. The idea is the same, just substitute 72 with 115.

To further understand the Rule of 72, click on the youtube video below. You will have to be patient because the Rule of 72 is introduced later on the video. In the next post, we will talk about the lessons that we can learn from the Rule of 72.

Hi ! my name is  Zigfred Diaz, Thanks for visiting my blog where you can learn stock market investing the Warren Buffett way and using other value investing methods ! Never miss a post from this blog. Subscribe to my full feeds for free. Click here to subscribe to D’Intelligent Investor by Email