Calculate how fast your savings will grow with the rule of 72: Here's how
Here a powerful shortcut that investment professionals use to see how quickly their savings grow.
The upside of rising interest rates is that savers are suddenly earning significantly more.
Almost overnight, you can get a decent return on your savings. And that raises the prospect, for the first time in a while, of growing your cash without reaching deeper into your pocket: through interest or investment returns.
And there’s a powerful shortcut that investment professionals use to see how quickly they can double their money.
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But first, let’s take a brief look at those interest and investment returns on offer.
Higher interest and volatile investment returns
Just before Christmas, the top savings rate hit 4.55 per cent for an at-call bank account.
That rate, on ING’s Savings Maximiser, is in the form of a base and bonus component.
The base is 0.55 per cent, but needs to meet certain conditions every month, and 4 per cent of additional (variable) interest is added.
The conditions of such bonus accounts - and this one is no different - are often to grow your account balance in a month and, in this case, make five or more eligible ING card purchases. An extra hurdle here is you also have to link this account to an Orange Everyday bank account.
Of course, people with cash might instead seek higher returns available from investment. What’s going on there?
It was another rocky year on markets, this time, due to inflation unexpectedly spiking. The S&P/ASX 200 fell 5.5 per cent over 2022. But it’s worth noting that was the biggest drop in four years, and our market outperformed pretty much every other advanced market, due to the strength of the Aussie economy.
Even so, shares might still now be considered cheap. And there could be bargains to be had.
Taking into account dividends, the ASX 200 accumulation index lost only 1 per cent over 2022. Over the longer term, and in more ordinary times, investors can expect an annual compounded growth in their money of 7 to 8 per cent.
But, whether you sit your money for safety in a deposit-taking institution and wear lower returns, or take on risk to chase the higher ones available on the share market, a thing called the ‘Rule of 72’ tells you how long it will take to double your money.
What is the rule of 72?
The rule of 72 is basically a back-of-an-envelope calculation to compute - at any annual rate of compounded return - the years it will take to double your money.
For savers, the rule of 72 - until recently - has been frankly depressing. But, now that rates are up and share markets are volatile, money in the bank doesn’t seem like such a bad idea.
Let's say you can get 4 per cent. Note more might even be available if you lock your cash away for a time in a term deposit.
Seventy-two divided by four is 18. So, a lump sum deposited at a 4 per cent interest rate would double in 18 years.
We will correspondingly assume that share markets revert to a typical performance – let’s take this as 7 per cent. Seventy-two divided by seven is 10.3. So a lump sum invested in shares that returned such would take just over 10 years to double.
The rule of 72 is a great way to quickly assess an investment’s potential for you. Just be aware that the formula’s forecast doesn’t matter: investments can go down - as we saw in 2022 - as well as up. This is why you should never invest more than you can afford to lose.
Nicole Pedersen-McKinnon is the author of How to Get Mortgage-Free Like Me, available at www.nicolessmartmoney.com. Follow Nicole on Facebook, Twitter and Instagram.
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