Compound Interest and The Rule of 72

Task: Explain, in your own words the concept of 'compound interest' and 'the rule of Use examples.


Compound Interest- is interest that is paid on both the principal and also on any interest from past years. It’s often used when someone reinvests any interest they gained back into the original investment. For example, if I got 15% interest on my $1000 investment, the first year and I reinvested the money back into the original investment, then in the second year, I would get 15% interest on $1000 and the $150 I reinvested. Over time, compound interest will make much more money than simple interest.

Formula:

M = P( 1 + i )n

M is the final amount including the principal.

P is the principal amount.

i is the rate of interest per year.

n is the number of years invested.


Example:


Let's say that I have $1000.00 to invest for 3 years at rate of 5% compound interest.

M = 1000 (1 + 0.05)3 = $1157.62.

You can see that my $1000.00 is worth $1157.62.




The Rule of 72- is a rule stating that in order to find the number of years required to double your money at a given interest rate, you divide the compound return into 72. The result is the approximate number of years that it will take for your investment to double.


Example:


$100 invested at 6% compounded annually would double to $200 in approximately 72 / 6 or 12 years.