Compound Interest: How You Can Turn $200 into $500,000


Dylan Lewis: Hey, there! Welcome to
Motley Fool HQ! I’m Dylan Lewis. I’m joined by Robert Brokamp, CFP, Jason Moser,
one of our senior analysts here at The Fool. We’re going to be talking about one of the
eighth wonders of the world — I guess the eighth wonder of the world, one of the wonders
of the world, and how you can use it to help build a big retirement nest egg. We’ve also got some savings tips and some
ways to help you get there, places to put the money to make that happen. This video
is going to be an entrée into the topic. We also have a big discussion
of this in written form. You can catch that with our
investing starter kit over at fool.com/start. Thanks for joining us, folks!
Alright, Robert, I’m going to start with you. Let’s talk about this magic formula. I think it’s probably one of the most important
things when it comes to personal finances. Probably one of the least understood. Robert Brokamp: Right. What we’re
talking about here is compound interest. It really is the way to make
your money make money for you. A lot of people like to
hear things in terms of metaphors. I always think about it as basically a tree.
When you invest your money, you’re planting a tree. That tree will grow. But it also produces seeds that allow you
to plant other trees that will grow and produce seeds of their own. Give it enough time, you really
can turn one tree into an entire forest. That’s a metaphor I like to think of. Mathematically, it comes down to three variables:
the money you invest, the rate at which that money grows, and the amount of time. Put those three together, and you get a pretty
good idea of how much you could turn an investment today into something in the future. Lewis: We’re going to flash that
formula up on the screen so people can see it. I hope people aren’t
spooked by the idea of doing math. This is the thing where, you go to most personal
finance investing websites, there is something there, there’s a calculator that you can use
to get a handle on this and the power that it has. Robert mentioned time. Jason, I think that’s probably one of the
things that people have the most control over. Jason Moser: Yeah. That’s something we talk about,
certainly on the stock side of things. There is this dichotomy between what’s going
on Wall Street, the information they get and how quickly they get it,
vs. us here in Alexandria, Virginia. We’re not necessarily getting all
of that information as quickly. We have to have some edge. And we refer to time, I think, as that edge,
for the most part, not to mention our business-focused investing mentality. But when we
talk about compound interest, we talk about time. One of the slides that we use in our
Fool School classes occasionally, which really hammers this point home,
we offer the students a choice. They can either have a scenario where they
start with a penny, and then they double that penny’s value every day for one month.
On day one, it’s a penny. Day two, two pennies. Day three, four pennies.
Then eight pennies, and so forth. Or, they could get $100,000
per day every day for a month. Which scenario would you choose?
Most of the time, the kids go for the hundred grand. It makes sense. It’s a big number.
They think, “Well, that’s $3 million. I’ll have $3 million.” The penny scenario, you can’t really plug
your mind into how powerful that can be. But when you look at the actual number that
comes out there, if you go with the penny scenario, after those 30 days, you get $5.37
million — substantially more than the $100,000 a day. That is because of precisely what you guys
are talking about, compound interest. That growth. Your money making money
on top of itself, more or less. Really, it shows itself the
last five days of that month. It creeps along there, and then the
last five or so days, boom, straight up. It is real. It is math.
You don’t have to memorize the formula. You really just have to start investing. Lewis: I know as investors,
we love to see that hockey stick. This is the case here, right?
You have exponential growth. Actually, there’s a bias, it’s called the
exponential growth bias, that gets at exactly what you’re talking about, JMo. People have a really hard time conceptualizing
that rapid growth on top of growth. I know that not everyone has a lot of money
sitting around. No lump sum right off the bat. Not $10,000 where they can immediately
start enjoying the benefits of compounding. If we put it in slightly different terms,
if we say, what if it’s $200 a month? What might that become? You get $200 a month at 7% annually
over 40 years, that gets you over $500,000. Not too shabby.
It’s also pretty actionable. There are a lot of folks out there that have
the ability to sock away a couple of hundred bucks here and there over the course of the
month and make some major changes to their budget. Why don’t we talk about a couple of different
places we see as possibilities for people to trim? Moser: There are a lot
of different ways you can go with it. Everybody’s situation is different. It certainly depends on how old
you are, what stage of life you’re in. For younger folks, there are programs out
there today, whether it’s Acorns, or big banks like Bank of America, where they
offer these round up savings programs. Essentially, if you buy something with your
debit card, and you pay $5.20, the remaining $0.80 of that transaction
goes into a savings account. You’ll pay $6, but that $0.80 that rounds
up to $6 is going to go into your savings account. It doesn’t seem like much on based on that
one individual transaction, but if you look at that over the course of your daily and
weekly and monthly behavior, and then look at that over the course of a year,
it can really start to add up. Even though a savings account right now —
I don’t think we’re going to be hitting those days anytime soon where a savings account
is going to earn you any kind of a return, it is a way to start getting
that money socked away. Ultimately, that’s the main hurdle for most
people, is that friction of figuring out, how do I get that money
saved and out of my sight? It’s very difficult for someone to take money
out of their wallet and then put it somewhere else and not use it. That’s what
makes a 401(K) plan so genius. That’s what makes being able to set your paycheck
up so that you can have some distributions to an IRA or a savings account so genius.
It takes you, it takes us, out of the equation. Those are a couple of ways, at least. Lewis: Yeah, if you never see the money,
you almost don’t feel it quite the same way. That’s something a lot of people
experience with their 401(k) contribution plans. But if you have the ability, you have the
agency, with whatever the way your payroll’s set up, to be able to sock a certain amount
of money away over to a checking account or savings account so that you have it
come the end of the month, why not? Moser: I was thinking about
this before taping, too. This probably plays a little bit more into
folks like us, we’ve been working for a little while, a little bit more established, but we live
in this subscription economy now. Everybody’s trying to get you to subscribe
to their service or their product. Every six months or so, go through
and give yourself a subscription audit. Go through and look at all of
those things that you’re subscribing to. I bet you can pick one or two things
out of there that you don’t use or need. Then you can say, “That $10, I’m going to
put it into a savings account,” or somewhere else. But I thought about that more and more,
especially with kids, you run into these subscriptions… your entire month is
this big, long subscription. Give yourself an audit every once in a while.
It’s some easy pickings there. Lewis: I’m 100% on board with that. One of the easy ways to look to save money,
too, is to look at the things that you pay regularly but have paid
regularly for a long time. I’m thinking specifically
here about cable bills. There are a lot of businesses that are built
on the idea that we’re going to give you a teaser rate, we’re going to get you in with
that teaser rate, six months down the road, 12 months down the road, you’re going to
be paying more. I actually recently did this. I switched from one of the major carriers,
Verizon, down to an NVMO, Mint Mobile, and I saved $35, $40 a month on my plan.
Very similar coverage, very similar data plan. It was an easy one-time switch. Over the course of the year,
that’s almost $500 in savings. Bro, what savings tips might you have? Brokamp: I’m a big fan of a budgeting
rule known as the 50/30/20 guideline. 50% is your must-pay expenses. Groceries, mortgage, rent, health
insurance, things like that. 20% is savings. That’s a good target for people. You’re talking
about retirement, emergency fund, college. That’s that money that’s going straight
into the accounts, like we mentioned. That 30% is what should be your fun stuff.
Going out to eat, entertainment, stuff like that. But it’s important to track that. My wife and I have used an app where we have a certain
amount of money we can each spend each month. Every time we spend that
on a want, we add it into the app. Then we know, once we’ve reached that limit
for that month, we can’t do it anymore for the rest of the month. That makes sure that we keep the discretionary
stuff within a guideline, but also ensures that we get that 20% savings. I’ll add one other thing that we’ve used to save
a good round money, a plugin for Chrome called Honey. Anytime you’re checking something out, whether
it’s Amazon or a pizza place, you click the Honey app, and it basically finds a coupon for you.
You’ve had more mixed experiences. Lewis: Yeah, that’s 50/50 for me.
But I think the point remains. Whether it’s Honey or another coupon site —
Brokamp: RetailMeNot. Very useful. Lewis: — it’s so easy to find things quickly. Takes four seconds to search and try to find some
coupon codes for something you might buy anyways. If you’re an Amazon customer,
maybe shop around a little bit. Amazon doesn’t always have the best prices.
Brokamp: That’s a great point. Lewis: Alright, we’re going to take
some live Q&A from the audience in a bit. Before we get over to that part of the discussion,
though, the numbers that we were throwing out there, they are based on assumptions of
7% to 8% growth on an annualized basis. I think we need to talk a little bit about where
people can put money to get those kinds of returns. JMo, why don’t you start us off? Moser: I’m a big believer that the
index fund is the new savings account. For better or worse, we are in a situation
now where savings accounts and CDs aren’t going to yield any kind of a material gain
for investors or people looking to save and find any kind of a return. You’re talking about just fractions
of a percentage point at this point. There are great vehicles to keep
money safe from you spending it. But really, if you’re looking for return,
I think the greatest first step for anyone, it’s not a savings account,
it’s the S&P 500 index fund. That gives you immediate access to the most
important index when it comes to investors on the face of the earth. 500 of the most important
businesses around the world. Great diversity, immediate exposure, very affordable,
plenty of low-expense options out there. That savings account mentality
that we grew up with, I think, is gone. Lewis: So often, people that are in self-directed
accounts, IRAs, have that option available to them. Hopefully a Vanguard fund.
I know that you’re huge fan of that, Bro. For people that are working on a limited choice
with what they have available, and they are instead looking maybe directly at a 401(k),
maybe one that isn’t run particularly well, what are some of the things
that people need to be mindful of? What do they need to watch if they’re trying
to instantly get diversification with a mutual fund? Brokamp: That’s one of the interesting things. The vast majority of
people are saving through their 401(k). You’re looking at
a limited selection of options. The first thing I would say is, get your colleagues
together to advocate to the HR folks and the owners for a better 401(k).
It can happen. That’s No. 1. No. 2, then, look at the options. Fortunately, most do have that S&P 500
index fund, which is a great place to start. I do think it makes sense to diversify internationally,
have a little bit of small cap exposure, things like that. There, you want to focus on costs. You can look at historical returns
of the fund, and you should. Every study I’ve looked at basically pointed to,
the No. 1 predictor of a fund’s performance is cost. Get the low-cost option as much as possible.
Moser: That’s what Vanguard’s really well-known for. All along the way, we’ve been such fans, because
that’s one of the core principles of all Vanguard funds. They’re not raking you over the coals.
They’re working for you, not against you. Lewis: I know that some folks are going to say,
“Cool, I’ve got the 401(k) locked down. I’m making sure that I take care of that employment
match, maybe putting in a little extra beyond that. I’m interested in some stocks.” Why don’t we
talk a little bit about some good beginner stocks? You want to start out with something that
maybe isn’t the riskiest thing in the world. Jason? Moser: Sure. We’ve talked about something that’s
a little bit lower risk in the form of an index fund, something that follows that S&P 500.
The beauty of that is it is very low-risk. I married the idea of ways people might be
able to save money, or even perhaps generate a little bit of extra income,
with this first stock idea. There are probably a lot
of people out there that have hobbies. Maybe they craft things, maybe they
sew or paint or draw or whatever. One of the companies I follow,
I own shares in it personally, Etsy. It is that marketplace, that online marketplace
for people who like to sell their craft goods. Whether it’s some type of sewing project,
or some type of art, or whatever it may be, Etsy has become the de facto community there,
succeeding in the face of what’s been an Amazon world. Going through some of these numbers here
over the most recent quarter, they now have 2.3 million sellers on the platform,
but 42.7 million people buying on the platform, pushing through $1.1 billion in gross
merchandise volume over the past quarter alone. You’re talking about a network that’s pushing
through billions and billions of dollars, succeeding in what has become
an Amazon-dominated world. But we know it’s very forward-thinking in that they
are succeeding on the e-commerce side of things. And that’s all it is, it’s a network.
A lot of opportunities for them to grow. It’s a global business and run by
a very good CEO in Josh Silverman. Still plenty of room for this company to grow. It’s still a relatively small business given
the market opportunity out there for it today. It would be a riskier business,
but I don’t want to call it a risky business. It is a fair, mid-range risk business,
but they’re profitable, they’re cash flow positive. There are fundamentals behind this
business that should have investors excited. Lewis: Viewers, even if you aren’t looking
for individual stocks, if you’re looking for recommendations for where to buy gifts,
Etsy is one of the best places out there. Moser: It is phenomenal, really amazing. You go check it out, you realize
very quickly why they’re succeeding. Brokamp: My daughter made $250 with her
little Etsy shop selling slimes. 13 year old. Moser: I went through the same slime thing.
Our younger daughter, Ainslie, she was big into slime. I went through all of the work
in setting up an Etsy account. And I got to the last step where they’re asking for my
banking information because Ainslie was 11 at the time. And I was like, you know what, let’s hold off for
a second and see how committed you are to this. And she went through Instagram and sold some
things but the interest faded, so we didn’t have to — Brokamp: But it’s
a good learning experience. Moser: It was a
wonderful learning experience. Very well run business and network. Lewis: I’m going to be the viewer here and
ask the question because I am not at the age where I know what slime is,
cause I don’t have any kids. So, what is slime?
Brokamp: It’s slime. It’s like Silly Putty gone bad. It is sticky and gross
but kids love playing with it. I think the slime phase is fading. Moser: It has faded. Everybody’s got their own thing when
it comes to craft beer or craft whatever. This slime would
be how you identify yourself. It’s one of a kind, unique, it’s made
from Elmer’s glue and borax detergent. You’re thinking, these kids have to
be burning their hands off or something. But apparently, there was no chemical
reaction strong enough to hurt anybody. This stuff was all over
schools for many, many years. Lewis: Alright, enough on slime. JMo, I know you have one more
stock that you want to talk about. Then we will flip things over to
Q&A with the audience watching live. Moser: This is another stock that I own.
I think it’s relatable for a lot of people. If you look at some of these numbers,
68% of U.S. households or about 85 million families own a pet according to a national pet
owners survey recently. That’s up from 56%. We know a lot of people
that own dogs, cats and other pets. Pets are a way of life for a lot of people. This company, Zoetis, ZTS, is the company
that makes a lot of those vaccines and medications for your pet when you take them to the vet
for their checkup. I have three dogs at home. I take one or more of them over to
the vet at any given time for a checkup. They’re getting a couple of shots,
a couple of blood tests and all this stuff. They’ve got a diagnostics
wing of the business as well. Zoetis is a big part of that visit. At least when I’m forking over that bill for
that vet visit, at least I know I’m paying myself because I own some of
those shares of Zoetis. But it’s amazing. We think about our human healthcare
system and how insurance makes it so difficult, so nebulous and difficult to understand.
The pet industry is a cash business. There are pet insurance products out there.
But overwhelmingly it’s a cash business. Which makes this market a lot more attractive
because the financials are very easy to understand. Zoetis is far and away the market leader in
what they do. Global business. Very diversified. A lot of things to like about it, and certainly a lower-risk.
And, on top of it all, Bro, they pay a dividend. If you own the stock long enough, you can
feel that compound action working for you. Lewis: I have to confess, I didn’t know what
Zoetis was before you told me this what we were going to be talking about on the show.
I went and I looked at the stock chart. Up and to the right. Really nice.
Moser: It was spun of Pfizer not terribly long ago. Pfizer, as we know, is another
big business in the human healthcare industry. It was nice that they gave Zoetis the
room to go off and do their own thing. They’ve been very successful thus far. Lewis: Alright, we are going to switch gears
and take questions live from the audience. If you’re interested in getting some more
stock ideas, or getting started investing, head over to fool.com/start to get our investing
kit, five-stock sampler to get you going. I want to start with one question that was
actually from a comment on another YouTube video. This commenter said, “I hear you guys on getting
started investing now, but I have credit card debt. Which one comes first?”
This seems like a Robert Brokamp question. Brokamp: It’s a difficult one. The average interest rate on
a credit card these days is 17% to 18%. If you don’t have a great
credit score, it’s even higher. From a numbers perspective,
it always makes sense to pay that off first. That said, if you have a 401(k) at work,
and you get a good match, I would say at least take advantage of the match because
you’re getting that free money, plus there are tax benefits to the 401(k).
I would do that first. But otherwise, do everything you
can to get rid of that credit card debt. It’s hard to grow your net worth if
your portfolio is growing 8% to 10% and your debt is growing at 17% to 20%. Lewis: You don’t want
compound interest working against you. Brokamp: Exactly, that’s exactly the way
it works. They’re cutting down your trees. Lewis: Yeah, you don’t want that. Whitney asks, “Any encouraging words for those
of us in our early 50s who started investing late? Where can I buy a time machine?” Moser: The time machine is probably the one
thing most people I know, when they get started a little bit late, that’s what they want,
is a way to go back even 10 years. I will say this, as we get older —
and I’m closing in on that 50 number myself — I do feel like we get more
patient as we get older. I think that is a big advantage, especially when we
talk about the fact that time is our buddy here. Bro, what was it you
said recently? 70 is the new 50? Brokamp: 70 is the new 65 for retirement. Moser: We’re talking about
people working longer and longer any way. If you can sit there and look at your life
and say, “I don’t want to have to worry about achieving my financial freedom until I’m 70,”
that puts things in a little bit better context. And then, all of a sudden, you can use your
wisdom and say, “Well, I can be patient. I don’t have to do anything rash
to try to make up for lost time.” That to me is one of the
bigger advantages of getting older. You do have a little bit better perspective.
You can exercise a little bit more patience. Brokamp: The good thing about being over 50 is
the contribution limits to 401(k)s and IRAs goes up. Higher limits.
The kids are out of the house. Once you start paying for college tuition
and all that stuff, don’t start spending that money. Just take that money that you were spending
on your kids and get that into retirement accounts. There’s no question that you can solve a lot
of problems by delaying retirement at age 70. That’s more years of adding to your accounts,
more years of the accounts growing, and a higher social security benefit
because it goes up 8% for every year you delay. Lewis: That actually sets
us up for a good follow-up. What do you guys think of
risk tolerance over time as you get older? So much of what we’re talking about here is
being somewhat invested or fully invested in the stock market to get that 7%
to 8% return we’re talking about. How do you change that as you get closer and
closer to needing to draw on those funds? Brokamp: I’m the advisor for our
Rule Your Retirement service. We have model portfolios. Once you’re within a decade of retirement,
the portfolios have about 25% of the assets out of the stock market. Then 40% out
of the stock market once you’re retired. That’s for the average person,
moderate risk tolerance type of person. You could have more in the stock market if
you have something like a pension or something like that, or an annuity,
because those act sort of like bonds. But those are good guidelines.
You can gradually do that. One way you can do it is, once you get within
a decade of retirement, rather than reinvesting your dividends, let them accumulate as cash,
or get invested in bond funds, so that by the time you reach retirement age,
you’ve built up a nice what we call income cushion. Basically, it’s money that’s out of the stock
market, so you can withstand any bear market that’ll happen in your retirement.
Because it will happen. You’ve got to have some money
to live off while stocks recover. Lewis: Dividends have
come up a couple of times. We have one viewer asking us,
“Are DRIP plans good for individual stocks?” I’ll take that acronym out —
dividend reinvestment plan. It probably depends on
what your investment goals are. Jason, what do you think about that?
Moser: Yeah, it is another way to set it and forget it. If you’re looking for the type of investing
strategy where you don’t have to worry about things, you don’t have to do a lot, dividend
reinvestment programs can be very helpful. It’s essentially doing the work for you, and
making sure that you reinvest those dividends that you’re getting from your shares.
I do think they’re helpful. The flip side of that is, perhaps you’re
like me — I’d rather have that cash and be able to consider adding to different
stocks in my portfolio that I’m following. But it also definitely depends
on what stage of life you’re in. Are you in “grow your wealth” mode?
Or are you in “protect your wealth” mode? That can certainly help dictate it as well. If you’re in “grow your wealth” mode,
maybe getting that cash and reinvesting it on your own terms makes a little bit more sense. But if you’re looking to protect your wealth,
maybe the dividend reinvestment program makes a little bit more sense, because it takes
some of the thinking out of it, which is nice. Lewis: And certainly, if you’re banking on
getting the cash, you want to sidestep the dividend reinvestment program.
Otherwise, it won’t be coming your way. We have a question from Paul. He asks, “Besides maxing out contributions
to your 401(k), what else can be done to help reduce taxable income in a given year?”
Robert, any ideas there? Brokamp: One thing we like to talk about here
at The Motley Fool is tax loss harvesting. The investments you have outside of
retirement accounts, if they’re below the cost basis, the point at which you bought them, you can
sell them, and that could be used to offset gains or up to $3,000 of income.
That’s one way to do it. Other things. Make sure you’re maxing out your 401(k).
That’s the most important thing. Lewis: That’s the biggie.
Brokamp: That’s the biggie, it really is. The interesting thing about the new tax law
that passed at the end of 2017, most people did get a tax cut, but it took away a lot of the
deductions and increased the standard deduction. A lot of things you used to be able to do
to cut your taxes you’re not able to do because you get that higher standard deduction.
For example, a third of people used to itemize. Now, only 10%,
because it’s not worth it anymore. Moser: Yeah, I was going
to say, buy another house. That’s a thing you can do. For a time,
we had a rental property that we managed. It was interesting to see how
you could use that to your advantage. I’m no tax expert, but we had
a tax guy that worked with us on that. But, yeah, the tax laws
seem to constantly change. As soon as you put yourself in one good position,
that law goes back against you, and you’re not necessarily in the same position. Once you buy a house, you’re probably going
to be stuck in it for a while, so make sure that’s the decision that’s
right for you before you do it. Brokamp: Yeah. I’ll add something. If you don’t want to invest money in the stock
market for any reason, you feel like you have enough invested, or you’re worried,
you’re looking for a safe alternative but you don’t like cash and bonds, a great strategy is
paying off your house before you retire. When you’re in retirement, for every dollar
you spend, you increase your taxes. Why? Because every dollar you spend, you’ve got
to take more out of your IRA or 401(k). You take out $100, and you’re in a 20% tax
bracket, you’re going to increase your taxes by $20. If you pay off your mortgage before you retire,
you’ve lowered your expenses significantly, and you can live on a lot less money, which
is great, but it’s also going to lower your tax bill. Lewis: Our next
question comes from Stuart. I think you guys are both very qualified to
answer it. It gets at something you’ve both done. “I have a two year old and a three year old. What do I do to invest so they can be ahead
of the game when they turn 21?” Jason? Moser: Great question!
Brokamp: We both have done podcasts on this. Jason’s great! Moser: I’m very lucky in that my parents taught
me about investing at a young age. It interested me that you could make more
money with your money, and it stuck with me. I have 13 and 14 year old daughters now. We got them started investing when they
were six and seven, something like that. It stemmed from going into a Panera one day,
and me telling them that we actually owned a part of it, and they were fascinated by that.
Brokamp: Did they try to get a free bagel? “I own this.” Lewis: “This is my dividend.”
Moser: I did say, “See that napkin on the floor? You can pick that up if you want.
This is your place.” Ultimately, what we wanted
to do was give them a head start. We talk about time a lot. That time
is extremely valuable, particularly at that age. Believe it or not, my kids don’t want to sit
here and talk stocks with me all day, Dylan, as much as I wish they would. It’s only
a once in a while thing. But that’s the point. You get them into it at a young age.
They’re ignoring it anyway. We would take tooth fairy money, birthday money,
my wife and I would help them out a little bit. We talked about birthday gifts
we would give them, or Christmas gifts. Stocks make wonderful Christmas gifts for
kids, at least from a parent’s perspective, because they don’t require batteries,
you don’t have to pick them up off the floor. A couple of things we did. We opened
an individual account for each of them. It’s just like opening
a savings account, a UTMA or UGMA. All that is saying that the child is the owner
of the account, but I’m the custodian. I maintain that account for them until they
hit the age where they can actually own it themselves. But I gave them each their own account,
and I didn’t want to combine them because then you have to deal with splitting it up. There can be some tax implications there,
particularly if you get some stocks that have done well over the course of 15 years. From there, it is a matter of talking a little
bit about the different kinds of companies that they like, the ones that we witness every
day, building a portfolio around those ideas, the companies that they like, the Under Armour
shoes, the Nike shoes, the Apple phones, the Netflix account, the Amazon stuff, anything
that comes into our lives on a daily basis is fair game. Every time we buy one stock for them, that’s it
— the next time, it has to be a different one. That simply teaches them the
value in diversifying your portfolio. Fast forward to today, they have portfolios
now with about 12 or 13 holdings in them each. We check on them every couple
of months to see what’s happening. But the concept is there. They’re seeing
their money compound and grow. It’s a very powerful lesson. The goal
is ultimately not for them to become rich. I hope that they do. But, it’s to give them the tools so that when they are
adults, they can at least make an educated decision. Not going to be able to control what they do,
but at least we know that we gave them the tools to make the decisions
that are going to work best for them. Lewis: I think the advice for getting a kid
started investing — we actually got a follow-up question from other viewer, you answered
it very well — it’s very similar to getting a new investor excited about investing. We talk so much about how you need to buy
a business that you understand and know well. One of the very common ones
for a lot of people is Starbucks. It’s something you see, it’s an easy
thing for you to wrap your head around. The lesson’s the same with kids. If you know they love Disney, they’re going
to be excited if they go to the movie theater and say, “I’m getting a fraction of some penny
that I’m paying for the tickets for the show that we’re going to go see.”
Moser: It’s a very cool concept. Back to your point on kids,
I think that in most cases, that works. I can tell you from my time
in the golf business, I taught a lot. It was always a lot easier
to teach golf to kids. They had more of an open mind
and less frustration that came about. They saw the challenge
and wanted to attack it. Adults can sometimes be a little bit more
difficult to teach from the very beginning. I’m not saying it can’t be done. I’m simply saying that when you get kids younger
in life to understanding these principles and getting them invested,
it tends to stick a little bit better. Again, it gives you a lot of extra time,
because if you get a kid started at five or 10 years old, 10 years may not sound like a lot of
time, but as an investor, it is a lot of time. Lewis: I think we have time
for maybe two more questions. One of them comes from someone who says, “I day
trade and I make a small amount of money every day. How can compound
interest help me earn more?” I actually think that this is a great chance for us
to look at how compound interest works for you. A big part of it is being invested. Brokamp: We should make it clear that generally,
we here at The Motley Fool aren’t big on day trading so much. I would say, if you’re day trading, track
your returns to make sure that it’s worth it. Talk about something that
can quickly generate a lot of tax bills. You have to take into account
the after-tax consequences of it. Lewis: Yeah. The day trading data seems to show
that’s a very tough thing to do consistently well. We are generally long-term,
buy-and-hold folks here at The Motley Fool. I think a lot of people seem to get compounding
working on their side a little bit more often that way. We’re going to wrap up
with one more question from a viewer. They ask, “How should
I prepare for the next recession? Do you recommend I be fully invested
or keep some cash on the side?” I think that this is something
a lot of people are wondering about. You look out at the big macro picture.
There’s a lot of scary headlines. I work in our editorial department.
I know all about them. Brokamp: [laughs]
You’ve created some of them! Lewis: I’m sorry.
We’re trying to educate here. A lot of people are looking at things like
the yield curve inverting, negative interest rates, and they’re getting a little frightened. Jason, what would you say to someone
who’s asking a question like that? Moser: First and foremost, we talk about this
all the time on our podcasts and radio shows. When it comes to a recession, it’s a matter
of when, not if. You have to expect the recession. It’s going to happen. I was reading recently on Bro’s wonderful
Rule Your Retirement site an article where he’d quoted a factoid that
went all the way back to 1865. It talked about the fact that we’ve
had a recession every decade since 1865. We are getting ready to wrap up this decade here in a
few months, and we’ve not had a recession this decade. Now, we obviously went through a pretty big
one right before the beginning of this decade. But the point is, we are getting ready to
wrap up a decade where we may not actually have a recession. I don’t know that matters to me, because I
feel like the recession will happen eventually. As an investor, having gone through the
Great Recession, that was probably the single greatest experience as an investor
for me from a learning perspective. I learned a lot about not only the mechanics,
the headlines, how to deal with the emotions, how to prepare for it. For me, the two things that I walked away
from is: make sure that you have access to some capital to invest. Always keep
that dry powder, that cash in your account. I know people always want to ask,
“Well, it’s just cash that’s sitting there,” I get that, but you have to understand,
the return is the liquidity, OK? The return is being able to
put it to work at a moment’s notice. And then, from there, focusing
on investing in those good businesses. Don’t worry about the flavor of the day. That’s one
of the things I love about our style of investing. We’re focusing on these businesses
that continue to do great things over time. David Gardner always talks about
that adding to your winners mentality. These winners keep on winning for
a reason. They’re great businesses. I don’t know that there’s a bad time to invest
in an Amazon or a Starbucks, as long as you have the appropriate timeline. If a recession comes and you see these great
businesses on sale, you have to be ready to jump in, so have that watch list ready. Brokamp: I’ll add that, over the last 11 recessions,
the unemployment rate has gone up about 2.5%. The last recession,
it doubled from 5% to 10%. The point is, one of the biggest economic
impacts of a recession is, many people lose their jobs. If you’re worried about a recession coming,
make sure that your job is secure, and have a good emergency fund on the side so in case
anything does happen to your job, you’re ready to weather that. Lewis: Alright,
that’s going to do it for this broadcast! Jason, Robert, thank you
so much for joining me! Thank you to the viewers for
asking all these awesome questions! It’s great having a lively and vibrant Q&A. If you’re interested in that investing starter kit that
I mentioned, you can grab that over at fool.com/start. You mentioned the emergency fund.
Talks about building that emergency fund. Talks about making 401(k) decisions. Gets you to the point where you can buy that
first stock, and gives you five starter stocks as well. If you haven’t already, give us a thumbs up,
be sure to subscribe to the channel. You get all the great content we’re putting
out here. Until next time, I’m Dylan Lewis. Thanks for listening and Fool on!

50 thoughts on “Compound Interest: How You Can Turn $200 into $500,000

  • There is an error in the example given. Investing $200 per month (=$2400 per year) for 40 years at a 7% interest rate would give you a final sum of $2400*( 1 + 0.07 )^40 = $35,938.698. The correct interest rate should be 14.28% to give a final sum of $500,058.15. Furthermore, the interest rate must be greater then 9.66% before the compounding can kick in.

  • I am Canadian, can I register membership of .com instead of.ca? If I can, any discount I can get please? Thank you, I like your videos.

  • Video volume is too low I am using in ear headphones and I is still to low. Off course important info and I need and boombox to hear it awesome job.

  • I believe that everyone has the ability to invest and take advantage of compound interest some just have to make the necessary sacrifices financially and life adjustments.

  • I just opened my bank account a couple months ago and have under 2,000 in my savings. Is it a good time to start an investment or should I wait until I have more in the account. This video was really helpful. Took a lot of notes thank you.

  • Why are we not all rich then? Give us a Stock Pick that is going to make us $500,000 … And the number of years it will take to get there.

  • Been working on this and came up with a reasonably good approximation equation for all [1=<t<=N]: Y(t) = Y(0) *[1/δ*(e^δt – e^δ) +e^δ] where δ =In(1+i). Y(t) is the total compounded amount at time t, Y(0) is the yearly investment , (in our case 2400$.) Thank G0d for Newton and Leibnitz.

  • Starting with the differential equation dy/dt = y{0}*[1 + i ] ^t = y{0}*e^δt then use the indefinite integral with the initial conditions that at t = 1, y{t} = y{0}e^δ to arrive at y{t} = y{0}*[1/δ(e^δt – e^δ) + e^δ ] where δ =Ln( 1 + i)

  • Etsy talked about here: https://youtu.be/0-K1pVcmVzk?t=795 has a gross merchandise sales volume of around $1.2 billion
    (Source: https://www.businessinsider.com/etsy-q4-2018-revenue-boost-2019-2?r=US&IR=T) BUT that's not the company's revenue. It ekes out no more than say $200 million
    per quarter. That number + other info (profits, debts…) makes its current price of around $56 unjustifiable. Personal opinion: don't buy.

  • The first million I made was from trading stock , though I couldn't do it my self Nina Jeanne Rose a popular smart trader in U.S assisted me after I meet her in a trade conference in Texas, with the help of this woman I'm counting my 2nd million this year

  • Just worked out a much simpler way of working it: Y(t) = Y(0)/i * [ e^it – 1 ]. See Jeffrey Chasnov Compound Interest on YouTube.

  • There is no way on this planet you can make half mil from $200. Unless you add it monthly.

    These guys mislead you just to watch their video, like most aholes on YT just to make money.
    Thumbs down

  • Hey, listen apes! What are you losers going to do with $500,000? Buy a mega yacht? Sorry those come for from $60 million to $500 million. Buy a private jet? Decent ones come for around $20 million to $90 million! Buy a recreational ranch? Good ones come for around $100 million! Buy a private island? Nice ones among these, again, come for around $70 million. In engineering universities we calculate the “Internal Rate of Return” to ascertain the financial viability of an engineering project, whereas in business universities we calculate the “Net Present Value” to calculate the attractiveness of different investment opportunities. Both of these rely on a discount rate to convert future cash flows into their present value by discounting them with a rate which is equal to the return we’d have obtained from another investment opportunity or from the banks. You invert the discounting factor, and guess what? Lo and behold, the mysterious, obscure and enigmatic equation of compounding heralds itself! What seems a mystery to you novices is actually one of the simplest equations that engineers come across. I wonder how you idiots would react to engineering math; that is Fourier analysis, Laplace Transforms, Bessel’s Functions, or god forbid the Maxwell’s equation of electromagnetic wave propagation or triple integrals and derivatives as the limits approach zero. LOL. Your mind-numbing equation is the simple: C X (1+r) raised to the power of ”n”. “C” is your investment capital, “r” is your rate of return, and “n” the number of compounding periods. These can be hours, days, weeks, months, quarters, or years but are generally days for your bank account and quarters or years for other investment. These though can be anything from hours to years, depending on how frequently your profits are reinvested back.

  • This is why I refunded my motley fool. It's a joke. By the time 200 turns into 500k, the 500k will be worth less than 200 is today. Oh and you'll be dead.

  • How much money have you made in the stock market in the past 12 months with compound interest? Probably not much as the s&p500 has only gone up about 3%

  • Sp500 is bs massive overvalued. Buy a monthly dividend bond fund. You will compound much faster than the SP. There is an idiot bubble now in index funds

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