The savings journey: The power of compound interest
Have you ever heard of the #just1thing campaign?
It was designed to show people how sacrificing something small, like a cup of coffee or manicure, can have a meaningful, positive effect on your bank balance.
The saying “short-term pain, long-term gain” is no truer than when applied to saving.
Due to the wonders of compounding, saving a little bit here and there can result in serious long-term gain.
What is compound interest?
Let’s start with interest: When you invest money at a particular rate of interest, you get back something extra at the end of the agreed period.
This extra is called interest earned.
In layman's terms, compound interest is simply interest on interest.
The more money you are able to put away in a savings account, or retirement account, the more interest you can earn.
So, If you don’t have extra cash in your monthly budget, think about giving up #just1thing and putting that money away in a special savings account and start earning compound interest.
Here are some ideas:
- Smoking one less pack of cigarettes per week (@ around R46,50 per pack for a popular brand) can save you R186 per month - and it will be good for your health too.
- Making your own take-away coffee instead of buying a take-away cappuccino (@ R28 per cup) every work morning can save you R560 per month.
- Saving your money instead of a buying a weekly Lottery ticket (@ R5 per ticket) = R20 per month.
- Eating one less Big Mac meal per week (@ R49.90 per burger) can save you R199,60 per month.
- Boiling and bottling your own drinking water instead of spending R12 per 750ml of water daily can save you R336 per month.
- Reducing your on-screen time/data consumption by R39 per week (that’s 200 MB per week) can save you R156 per month.
- Packing your own work lunch instead of spending R25 on a pie and coke once a week can save you R100 per month.
- Drinking one less beer per week (@ R20.98 per 500ml bottle) can save you R83,92 per month.
- Buying your own nail polish at R40 per bottle instead of paying for a monthly manicure (@ R150) can save you R110 per month.
If your household implements all of the above, you could save R1 751, 52 per month or a surprising R21 018, 24 per year that you could add to your savings efforts.
The 5 things you need to know about compound interest
1. Anyone can benefit from compound interest. There’s no need to be a Wall Street wizard or a Harvard graduate to make compound interest work for you. Almost any investment will earn compound interest if you leave your interest earnings in the account.
2. Compound interest is a double-edged sword. It's great if you're routinely saving money, but it can be cruel if you're borrowing money. Compounding is also where you get charged interest on debts you owe, then interest gets charged on the interest, accelerating your debt into the stratosphere, making you very poor – and someone else very rich, at your expense.
3. You want savings to compound as often as possible. It's better if you compound quarterly rather than annually when you're saving money. If you're borrowing, just the opposite applies.
4. Time is on your side. The longer money compounds, the faster it grows. Someone who starts saving at the age of 21 and then stops at 30 will end up with a bigger pension pot than a saver who starts at 30 and puts money aside for the next 40 years until retiring at 70. It is important to ensure that compound interest works for you as you save to retirement – time is on your side.
5. You don't have to be rich to make compound interest work for you. The principal works the same whether you invested R10 or R100 million. The millionaire may have more investment options, but even the poorest among us can use compound interest to reduce the amount that we pay credit-card companies and payday mashonisas.
Use some of your compound interest when FOMO strikes
We live in a digital world, where most trends are seen on social media. If not planned and budgeted well, our finances can be placed under a lot of strain, with every pair of Jordan Airs, every Xbox gaming console, and every Apple or Samsung Galaxy device that we purchase.
When you have savings to call upon when that fear of missing out or FOMO strikes, you may be able to do so, without swiping your credit card and increasing your debt.
What's the bottom line for you?
Compound interest can turn a few rands today into big money over the course of a lifetime.
Saving even a few rands in a disciplined way every month might not seem like much, but if done disciplined and consistently it could make a big difference in your financial future.
Disclaimer: The advice contained on this blog is for general purposes only and does not take into account individual circumstances, objectives or financial needs. Accordingly, readers are advised to seek appropriate advice from licensed professionals prior to making any investment, or taking up a financial product or service.