What Is Compound Interest?
Compound interest is interest calculated on both the initial principal and the accumulated interest from previous periods. It's often called "interest on interest" and is the reason investments can grow exponentially over time.
The Compound Interest Formula
A = P(1 + r/n)^(nt)
Where: A = future value, P = principal, r = annual rate, n = compounds per year, t = years.
The Power of Starting Early
A 25-year-old investing $500/month at 7% return will have approximately $1.2 million by age 65. A 35-year-old investing the same amount would have only about $567,000. The extra 10 years more than doubles the result thanks to compound interest.
Tips to Maximize Compound Interest
- Start as early as possible – Time is the most powerful factor
- Contribute consistently – Regular monthly contributions add up dramatically
- Reinvest dividends – Let your earnings generate more earnings
- Minimize fees – High fees erode compound growth significantly over decades
- Choose higher compounding frequency – Monthly compounding beats annual