Posted by Hakyun Morrissey.
I was on Facebook the other day and saw a video of a four-year-old Justin Timberlake fan which had gone viral. Of course he was adorable, telling the world how big a fan he is (the biggest—while possibly being the smallest) and why JT should send him free concert tickets. He posted his plea to friends and family (today’s toddlers learn how to upload videos before they tie their shoelaces). A couple of them forwarded it to their friends and family, and so on. The view count snowballed within hours. Et voila, that’s how a video goes viral.
Exponential growth is what viruses do. It’s also what your money does when you invest it at a fixed interest rate. The bigger your nest egg gets, the faster it grows.
What you missed in math class
When I was in school, the idea of compound interest wasn’t easy to grasp. Not because it’s a complicated idea. It’s actually very simple. The problem was, I didn’t see how it could ever be applied to my life. Cooking class – well that would obviously come in handy when I grew up and left home. English class – that was all about how to communicate clearly. But compound interest seemed like every other mathematical formula: Kind of irrelevant. I mean, when would I ever need it? Though I didn’t know it at the time, the concept of compound interest is one of the most useful lessons a young person can learn. And the sooner she puts it to practical use, the better.
I think today’s kids have a better understanding of what exponential growth looks like. They only need to look at what’s “trending now,” those amateur videos that start out with only a couple of views but eventually snowball to a million. The first time a video got a billion views was way back in 2012. “Gangnam Style” didn’t just go viral, it went “pandemic.” See below how total views of “Gangnam Style” grew in a matter of months.1
Now take a look at a graph showing the exponential growth of a $1,000 investment over the space of a few years. Notice the similarity. The major difference is that the cumulative “Gangnam” curve is beginning to level off as view counts begin to plateau. With compound interest, exponential growth can continue indefinitely.
What does it take for your savings to go viral?
When a virus particle invades a cell, it splits into two daughter organisms. They both then split to form four, which split to form eight, and so on. The number of organisms basically continues to double. Anyone who’s caught a cold knows from experience how rapidly this can happen.
Your invested money can also double and double, like a virus, it takes just takes a bit longer.
Assuming a 10% rate of return (and that’s a big assumption because historically, average stock market returns are around 8% per year), your investment will double every 7.2 years. Assuming a more realistic average of 7.2%, your money will double every 10 years. (Read more about this curious “72 rule” here).
All the money in the world
There’s the old story about the king who is gifted a chessboard by one of his courtiers. He’s so overcome with gratitude that he asks what he can do in return. The courtier merely requests that he put one grain of rice on the first square, two on the second, four on the third and so on. It seemed easy at first, but by the time he got to the 41st square, he needed to supply a trillion (a million million) grains. And when he finally reached the last squares, there simply weren’t enough grains of rice left in the world.
Imagine that each square of a chessboard represented ten years. Human lifespans only cover about eight squares. And yet, if you invest $1,000 at age 20, you’ll cover seven squares by the time you’re 90. That’s already 128 grains of rice, or $128,000 (assuming a 7.2% rate of return).
Think long term—but really long
Whatever you’ve amassed at the end of your life, it doesn’t need to stop accumulating there. If you put money into a Roth IRA, you’ll never need to make required minimum distributions (RMDs), and neither will your heirs. The money has already been taxed. Why not try to pass that snowball of wealth onto the next generation and keep it rolling? As the king’s chessboard demonstrates, it might not take very long to produce a dynastic-sized fortune!