What is the Rule of 72?
The Rule of 72 is a simple mathematical formula. It allows you to calculate how long it will take for an investment to double, given a fixed annual rate of return. The rule is derived from the fact that, mathematically, 72 divided by the interest rate equals the number of years for the original investment to double.
The Formula of Rule of 72
To use this formula, divide the number 72 by the interest rate you are earning on your investment. The resulting number is the number of years it will take for your investment to double in value.
For example, if you are earning a 6% return on your investment.
How long do you think it will take for you to double your income.
72 / 6 = 12 years
It will take 12 years for your investment to double.
This formula is a helpful tool to determine how long it will take to reach financial goals. However, it is important to remember that the Rule of 72 is only an estimate. Indeed, the actual results may vary.
How does the Rule of 72 work?
Keep in mind that the formula is only an estimate; actual results may differ. Nevertheless, it’s a helpful tool for quickly estimating the power of compounding without having to do any complex math.
The Rule of 72 and inflation
Inflation is often forgotten about when thinking about investing, but it’s important to consider its effects on your returns. This formula can also compute how long it will take for inflation to cut your money in half.
As an example, say you have $100,000 and expect a hypothetical long-term inflation rate of 3%. Since inflation reduces your purchasing power over time, your $100,000, if not invested, would lose half its value (aka be worth $50,000) by 24 years.
The calculation for this looks like: 72/3 = 24.
If inflation increases from a rate of 3% to 6%, that same $100,000 would lose half its value even faster — in just 12 years (72/6 = 12).