The Rule of 72 is a financial calculation that helps you estimate how long it will take to double your money. It perfectly illustrates how different interest or investment rates can impact your finances over time and can help you make better financial decisions.
How the rule of 72 works:
To use this rule, all you need to do is divide 72 by the investment return, or interest rate your money is going to earn. The answer will then tell you how many years it will take to double your money.
If you have money in a savings account with 2% interest a year, it’ll take roughly 36 years to double your money (72/2 = 36)
However, if you have money in an account that generates higher returns, like an investment account, that you expect will average 6% a year, it will only take 12 years for your money to double (72/6 = 12)
This calculation assumes that any money earned in interest over time is reinvested. This rule, therefore, works because of the power of compounding – i.e when money earned through interest is reinvested to make you more money.
Why the rule of 72 matters:
Understanding the rule of 72 helps you make better financial decisions as you can assess the benefits of short-term investments vs long-term investments.
If you have a sum of money that you’ll need to access in a year’s time, it doesn’t really matter if the rate is 2% or 6%. The extra interest won’t make a huge difference to your total sum in only one year.
For example, if you have £10,000 in a savings account with an approx 2% return rate, at the end of the year you’ll have £10,200. In the investment account earning 6%, you’ll have £10,600.
If you have a sum of money that you don’t need to touch for 12 years the rate of return could make a huge difference to your total savings.
This £10,000 will now be worth around £12,700 in a savings account, but according to the Rule of 72, your money will have doubled to £20,100 in an investment account.
How to use the Rule of 72:
If you want to double your money much faster, then consider whether your money is better off in an investment account rather than a savings account.
There are lots of things to consider before you invest your money, so take the time to do your own research and weigh up all the pros and cons. Investing will generally see higher rates of return, but it is possible for your money to decrease in value as well as increase.
There is a tonne of great investing books you can read to increase your knowledge on this subject, and there has recently been a surge in easy-to-use apps that help anyone starting their investment journey. If you want to hear what an investing expert has to say about investing for the first time, then check out this article on the Emma blog written by This Girl Invests.
Other things to note:
While the rule of 72 can be a helpful tool to estimate how long it’ll take to double your money, it can’t really predict the future value of your savings.
This is because you can’t often predict what will happen to rates over time. The stock market in particular sees huge swings, which can make it difficult to estimate the average rate of return.
The recommended way to make sure you capture an average rate is therefore to buy investments with a long-term mindset. Remember that time in the market is almost always better than timing the market. And that people who stick at it through the highs and the lows often see the biggest benefits.
The Rule of 72 will help you estimate how long it’ll take to double your money. If you have a financial goal in mind, use the calculation to help you decide where to direct your cash. But be aware, because rates of return can be difficult to predict, make sure other areas of your personal finances are also in order.
Having a budget, tracking your spending, monitoring your pension, keeping an eye on your credit score, understanding different tax allowances, getting the best deals on your bills, and even making sure you use a credit card properly all go a long way toward helping you double your money over time.