Investment

Can the power of compounding make you wealthy?

A very small percentage of employees put enough effort to navigate a better path to wealth and expedite the journey to reach a stage where their investments start generating a big passive income that can cover their monthly expenses for the rest of their life. They dream about becoming financially independent and they plan to retire early in their late 30’s or mid 40’s so that they can work for joy not necessity or even work on their own terms. Imagine what kind of happiness and power you get when you realize that you work only for joy. Life becomes super beautiful when you manage your time on your own terms without having to waste 8 hours of your life everyday to serve somebody else.

But in reality, a big percentage of employees end up working into the second half of their sixties or even longer and the sad news is that they do it for necessities.

Is it possible for any employee to be part of the small percentage of people who retire early in their 30’s or 40’s regardless of his or her income level?

The answer is absolutely yes, every employee regardless of his or her income can become financial independent and retire early from the workplace. Almost every time I bring up this subject in a conversation with friends or colleagues, they immediately disagree with me and insist that retiring early is almost impossible.

What makes me 100% sure that almost every employee can retire so early from the workplace if he or she follows the correct path to accumulate wealth?

When I was a kid, I used to love math because I felt that somehow math is a good exercise for a brain. Math taught me that there is only one correct answer to every single problem but there might be many solutions to reach that correct answer. Math trains the brain to find the most efficient solution to reach that correct answer to the problem. Math usually equips people with problem solving skills that people usually use on daily basis without even realizing it. I also learned that nobody could disagree with what math can provide. For example, no body can dispute the fact that 1+1 = 2.

In my early college years, I loved to read about Benjamin Franklin, one of the founding fathers of our great nation. As I was reading more in depth about him, I found out very astounding thing that he did. He left the equivalent of around $4,400 each to the cities of Boston and Philadelphia in his will, under the condition that the money be loaned and invested to young apprentices that had proven worthy of a loan. He stipulated that the cities would have access to a portion of the funds after 100 years and receive the remaining funds after 200 years. When the cities received their balances after 200 years, the combined balance had grown to over $6 million! Is not that amazing?

He understood the power of compound interest very well and he actually used it and proved that it did work. That small amount that he left in his will grew to over $6 million.

He definitely used math when he wrote his will before he died and utilized the power of compound interest when he calculated the amount.

Since I read his will, I’ve started to educate myself more about the compound interest to find ways to personally apply it to my life. I’ve learned that if I understand the compound interest very well, I will earn it and if I don’t understand it well, I will pay it. No wonder why I’ve avoided any kind of debt in my life. So far till this day, I have no mortgage loan, no car loan, no credit card debt, no student loan, and no debt whatsoever. Instead, I’ve invested every single penny I save to benefit from the power of compounding.

How can you personally apply the power of compound interest to your life to make you wealthy regardless of your income level?

It is very simple to apply it if you can implement these simple steps in your life:

  1. Study more about the power of compounding and don’t disagree with it. Remember, nobody can disagree with math. 1+1 = 2 and nobody on earth can dispute that. Realize that the more you know about power of compound interest, the more you will earn it and the less you will pay it.
  2. You need to learn to be patient. Patience is one of the most important vehicles that will take you to wealth and financial independence. You will not be wealthy overnight. Give the power of compounding enough time to do its powerful magic.
  3. Start investing as soon as possible in assets that appreciate in value over time.
  4. Try your best to avoid any kind of loan or debt. Do not borrow any money. Teach yourself to live below your means and reduce your expenses as much as you can. Remember, the less you need and the less you spend, the more you invest.
  5. Spend way less than what you earn and always invest the difference in assets that appreciates in value over time.
  6. Don’t marry irresponsible person. Remember, divorce can quickly destroys wealth.
  7. Always have insurance to prepare for any disaster that life throws at you.
  8. Be a law-abiding citizen all the time and stay away from trouble.
  9. Pay special attention to who you hang out with. Stay away from irresponsible people.
  10. Stay healthy.
Lets see an example of what the power of compound interest can do to an entry-level employee who just graduated from college.

Lets call that person John in this example.

  1. John is 23 year-old fresh graduate from college.
  2. John has $0 net-worth when he started his first job after he graduated from college.
  3. John earns $50,000 a year.
  4. John in his fresh years in college was fascinated by the power of compound interest and made a commitment to start using it in his life as soon as he starts earning money.
  5. John knows that if he implemented the power of compound interest during his working years, he would become a millionaire and retired so early from the workplace.
  6. John on his first day of his first job, calls the HR department immediately to ask them to put a big percentage of his pay in 401K plan in a low cost index fund that tracks the U.S. total stock market that has an average annual return of 9%.
  7. John continues this practice for 25 years in every job he gets.

Now, lets plug in these numbers and see what the power of compound interest can do to John during his 25 years journey.

As you can see, his end balance grew to $1,524,616.13. Yes……$1,524,616.13. John will be a millionaire and will have this big amount at age 48.

Keep in mind that in this example we assumed the following:

  1. John salary of $50,000 remained the same and he never got a raise.
  2. John never sold any single share of his U.S. total stock market index fund.
  3. John continued to make a pre-tax contribution of $18,000 a year ($1500 a month) in U.S. total stock market index fund that has very low cost (low expense ratio).
What about if John salary continues to rise during his 25 years career?

Well, if John salary continues to rise, then his end balance in 25 years will definitely be over $1,524,616.13 assuming he continues to contribute $18000 every year ($1500 a month) in low cost U.S. total stock market index fund.

If you are curious and want to plug in different numbers, you can use this great calculator.

Well, after you saw what math and power of compounding could do, let me ask you this question.

Do you disagree with me when I say I am 100% sure that almost every employee can retire so early from the workplace if he or she follows the correct path to accumulate wealth?