72 – The Rule of 72

By Gr8Full!, April 10, 2016

Rule Of 72 according to Investopedia:
What is the ’Rule Of 72’
The rule of 72 is a shortcut to estimate the number of years required to double your money at a given annual rate of return. The rule states that you divide the rate, expressed as a percentage, into 72:

Years required to double investment = 72 ÷ compound annual interest rate

Note that a compound annual return of 8% is plugged into this equation as 8, not 0.08, giving a result of 9 years (not 900).

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COMPOUND INTEREST
ANNUAL PERCENTAGE YIELD – APY
COMPOUNDING
RETURN
BREAKING DOWN ’Rule Of 72’
The rule of 72 is a useful shortcut, since the equations related to compound interest are too complicated for most people to do without a calculator. To find out exactly how long it would take to double an investment that returns 8% annually, one would have to use this equation:

T = ln(2)/ln(1.08)=9.006

Most people cannot do logarithmic functions in their heads, but they can do 72 ÷ 8 and get almost the same result. Conveniently, 72 is divisible by 2, 3, 4, 6, 8, 9, and 12, making the calculation even simpler.

The rule can also be used to find the amount of time it takes for money’s value to halve due to inflation. If inflation is 6%, then a given amount of money will be worth half as much in 72 ÷ 6 = 12 years. Nor does the unit have to be money: the rule could apply to population, for example.

Adjusting For Higher Rates
The rule of 72 is reasonably accurate for interest rates between 6% and 10%. When dealing with rates outside this range, the rule can be adjusted by adding or subtracting 1 from 72 for every 3 points the interest rate diverges from 8%. So for 11% annual compounding interest, the rule of 73 is more appropriate; for 14%, it would be the rule of 74; for 5%, the rule of 71.

For example, say you have a 22% rate of return (congratulations). The rule of 72 says the initial investment will double in 3.27 years. Since 22 – 8 is 14, and 14 ÷ 3 is 4.67 ≈ 5, the adjusted rule would use 72 + 5 = 77 for the numerator. This gives a return of 3.5, meaning you’ll have to wait another quarter to double your money. The period given by the logarithmic equation is 3.49, so the adjusted rule is more accurate.

Adjusting For Continuous Compounding
For daily or continuous compounding, using 69.3 in the numerator gives a more accurate result. Some people adjust this to 69 or 70 for simplicity’s sake.
Source:
http://www.investopedia.com/terms/r/ruleof72.asp?utm_term=rule+of+72&utm_content=sem-unp&utm_medium=organic&utm_source=&utm_campaign=&ad=&an=&am=&o=40186&askid=&l=dir&qsrc=999&qo=investopediaSiteSearch

I encourage all to invest in dividend stocks; the sooner the better.
This discussion is created to discover and share their due diligence of those equities. Best2All-Ben

This is a discussion topic or guest posting submitted by a Stock Gumshoe reader. The content has not been edited or reviewed by Stock Gumshoe, and any opinions expressed are those of the author alone.

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43 Comments on " 72 – The Rule of 72"

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savethemanatee
Irregular
2285
Thanks, Sogjam. I am a big proponent of dividend growth stocks. Einstein once said that compound interest is “the eighth wonder of the world.” For those companies that regularly raise their dividend payments, and by roughly the same percent each year, you can estimate future payments based on the rule of 72. By choosing the right companies, at an average 10% annual dividend increase after 35 years or so you will receive your initial investment as a dividend–each and every year. At business school I was taught that a company’s dividend strategy is irrelevant to the company’s value, and hence,… Read more »
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savethemanatee
Irregular
2285
Apologies in advance if any of what follows is too basic for this community–thought I’d start at the beginning. The basic premise behind dividend growth investing is to focus on those companies with steadily and consistently growing dividends. The goal is to maximize dividend payments 15, 20, even 30 years from now. Thus, these are, by definition, buy-and-hold investments in companies that you expect to last forever. Since we are dealing with such a long-term horizon, it’s imperative to limit risk, and one good way to do that is to ensure this portion of your portfolio imitates the broad market… Read more »
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Travis Johnson, Stock Gumshoe
Admin
9777

Fantastic explanation, STM — thanks! I’m sure many readers know this intuitively, but we also need to remind ourselves often of what really matters when trying to build wealth over time. Sometimes the simple lessons are those most easily forgotten.

savethemanatee
Irregular
2285
Yeah, I wasn’t sure how much background to include. Most of this is fairly rudimentary, but at the same time many investors–especially young investors–are dismissive of dividend-paying stocks as “for old people,” and I thought it could be helpful to explain why they should be an important part of any portfolio. I can think of nothing more enticing than being able to retire early and having 100% of my salary replaced by annual dividends (at a lower tax rate) . . . and to get a 10% “raise” every year thereafter. If you start early enough, and do it right,… Read more »
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savethemanatee
Irregular
2285
Many of the dividend growing stocks are the mega-caps that everyone has heard of: Microsoft, Wal-Mart, Pfizer, P&G, Pepsi, etc. These are easy. I prefer to try to identify smaller, less-well-known companies that have many of the same attributes but may be poised for quicker growth–both earnings growth AND dividend growth, that may belong in the dividend portion of a portfolio alongside the behemoths. One company I’ve been looking at recently is financial services company Lazard Ltd. ($LAZ). Lazard was founded in 1848 and is headquartered in Bermuda. A financial advisory firm, Lazard is best known as a company offering… Read more »
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