back to indexRPF0452-The_Rule_of_72
00:00:00.000 |
Don't just dream about paradise, live it with Fiji Airways. 00:00:05.000 |
Escape the ordinary with Fiji Airways Global Beat the Rush Sale. 00:00:09.120 |
Immerse yourself in white sandy beaches or dive deep into coral reefs. 00:00:14.040 |
Fiji Airways has flights to Nadi starting at just $748 for light and just $798 for value. 00:00:21.160 |
Discover your tropical dreams at FijiAirways.com. 00:00:29.800 |
Today on Medical Personal Finance we talk about the rule of 72. 00:00:37.120 |
One of those very useful little mental math shortcuts that you can use to estimate the 00:00:43.960 |
effect of various growth rates and calculate how long it takes you to double your money. 00:00:50.680 |
Welcome to Radical Personal Finance, the show dedicated to providing you with the 00:01:09.680 |
knowledge, skills, insight and encouragement you need to live a rich and meaningful life 00:01:14.440 |
now while building a plan for financial freedom in 10 years or less. 00:01:19.120 |
If you're going to do 10 years or less, do you know how much money you need at the end 00:01:22.880 |
And do you know how long it'll take your money to double in 10 years? 00:01:27.800 |
What interest rate you need to double your money in 10 years? 00:01:39.160 |
Jumping back into the financial planning shows here today. 00:01:41.920 |
I've been on hiatus for quite a while here on Radical Personal Finance. 00:01:45.200 |
Traditionally, I like to do Wednesdays as a financial planning show. 00:01:49.440 |
And the reason for that – I know for some of you, financial planning shows have been 00:01:54.760 |
That was what brought you here to Radical Personal Finance. 00:01:56.320 |
You said, "Hey, Joshua says he's teaching his way through the CFP curriculum and that 00:02:05.840 |
What I learned in doing the financial planning shows is as measured by download numbers, 00:02:12.400 |
meaning popularity of the shows, there tends to be quite a bit of variability among different 00:02:18.120 |
I know that some people are subscribed to the show where their phone, the app on your 00:02:23.120 |
phone just simply automatically downloads every show. 00:02:27.500 |
Many people just simply dip in and dip out when they want to and they choose based upon 00:02:35.240 |
And so I can see the variability of different shows. 00:02:37.760 |
I can measure what's more popular and what's less popular based upon the number of downloads 00:02:43.000 |
of a show and that could just simply be what's more popular in terms of the title of a show 00:02:50.560 |
So I can also then judge the popularity of shows based upon the actual feedback that 00:02:55.600 |
I get, the emails that I get, the comments that show up on the show page, et cetera. 00:03:00.940 |
So traditionally, as I've been doing these financial planning shows, they have often 00:03:07.120 |
been my least popular shows, some of the shows that have been downloaded the least and also 00:03:13.680 |
from a preparation perspective, they take me the most time to prepare. 00:03:18.960 |
When I do some complex show trying to go over various types of annuities or types of life 00:03:23.600 |
insurance, et cetera, in order to get that content clear and concise, it takes a tremendous 00:03:32.920 |
So I haven't had a huge motivation to follow through on these financial planning shows 00:03:37.520 |
seemingly because the audience doesn't seem to resonate with them as much as with other 00:03:44.600 |
That said, it is still important to me to do so. 00:03:47.620 |
And today, we're going back to my outline of certified financial planner topics and 00:03:52.800 |
crossing off one here called the Rule of 72, just a quick little valuable – hopefully 00:03:58.000 |
valuable tool and little piece of math, a little mental math shortcut that I want you 00:04:05.600 |
That's the purpose of today's show as we get back to the CFP curriculum. 00:04:09.680 |
I don't promise to give you one of these every Wednesday. 00:04:12.200 |
I will do my best to do them consistently and I have some chosen but it's largely 00:04:16.960 |
based upon what I'm able to do and when I'm able to do it. 00:04:20.320 |
So please be patient with me as I do my best to deliver the content for you on a consistent 00:04:26.080 |
The Rule of 72 is a mental math shortcut that you can use to calculate how long it will 00:04:35.520 |
It just basically measures how long if you have a mathematical quantity that is going 00:04:44.640 |
to be governed by compounding interest, how long will it take that to double or to have 00:04:51.960 |
The way that you do this math is you take the number 72 and you divide it by the interest 00:04:58.160 |
rate and you can generally do this in your head and get a good rough idea of how much 00:05:05.140 |
So very simply, if for example you think that you can earn 6% on your money, then you just 00:05:11.960 |
simply take 72, divide by 6 and the answer of course that you get is 12, 12 years. 00:05:23.920 |
That's how long it will take for your money to double. 00:05:26.080 |
$100,000 in the bank invested at 6% interest will equal $200,000 at the end of 12 years. 00:05:35.760 |
If you want your money to double every decade, you can calculate what interest rate you require 00:05:43.280 |
So you would take as a simple example, 72 divided by 10 and that's 7.2%. 00:05:48.120 |
If you have a million dollars, you don't spend any of the money, if you can invest 00:05:52.920 |
it at 7.2%, at the end of a decade, you'll have $2 million. 00:05:57.960 |
And that process then could be repeated the following decade. 00:06:02.720 |
Now of course compounding works against you the other way. 00:06:05.880 |
If you're using this to compare an expense, for example something like inflation, then 00:06:17.040 |
Yesterday's show, I talked about – yes, excuse me, where I talked about the numbers 00:06:22.320 |
of a million dollars value of 1998 when Tom Stanley first published his book The Millionaire 00:06:28.360 |
Here in 2017, I said that if you were a millionaire back then, you need a million and a half dollars 00:06:34.200 |
to have the same purchasing power that you had back then. 00:06:40.280 |
And if you wanted to say, well, how much would it be to double? 00:06:45.840 |
What would an inflation rate be for me to have to have $2 million in 20 years? 00:06:51.240 |
The answer would be three and a half percent. 00:07:00.560 |
It's a big deal because just a small move in inflation rates means that your money is 00:07:08.280 |
If inflation rate goes from 2 percent to 3 percent, which is a very normal calculation, 00:07:16.040 |
the number that I used yesterday was I believe the inflation calculator I plugged that number 00:07:19.960 |
into is like 2.5 percent, somewhere around there. 00:07:22.920 |
But if you used – if the inflation rate goes from 2 percent to 3 percent, that means 00:07:27.080 |
that your money will lose half of its value in 24 years instead of 36. 00:07:35.320 |
That's a big, big difference when it comes to inflation rates. 00:07:39.320 |
Of course also you can use this for expenses that you may face. 00:07:43.120 |
So there's the cost of healthcare or the cost of college tuition. 00:07:51.120 |
Let's say that cost of healthcare, cost of college tuition is going up at 5 percent 00:07:55.280 |
per year, then that means that about 15 years from now, you're going to have double the 00:08:12.640 |
It's useful because it has a way of translating something that we don't particularly know 00:08:18.880 |
how to connect with, interest rates, into something that we do know how to connect with 00:08:25.260 |
a little bit easier, money doubling and money doubling in a certain number of years. 00:08:32.760 |
If I talk about investment A that has the potential to return a 5 percent interest rate 00:08:38.120 |
or investment B that has the potential to return 7 percent interest rate, depending 00:08:44.680 |
on your familiarity with investing, that might or might not sound like a big deal. 00:08:50.120 |
For most people, the difference between 5 percent and 7 percent doesn't sound like 00:08:54.440 |
But the rule of 72 tells us that if we invest at 5 percent, our money will double in 14.5 00:09:01.600 |
years or if we invest at 7 percent, our money will double in 10.5 years. 00:09:09.320 |
So we can see here that that small, relatively small 2 percent difference, when we put that 00:09:15.980 |
into a compounding formula, it makes a huge difference on how quickly our money grows. 00:09:22.800 |
If you are 30 years old and you can double your money every 10 years versus every 15 00:09:31.120 |
years, that will make a huge difference in how much money you have at the age of 70. 00:09:39.840 |
The person who is investing their money at 7 percent, thus doubling their money every 00:09:44.960 |
10 years, has the opportunity to have four entire doubles. 00:09:51.380 |
Their money can double over four times once per decade. 00:09:54.840 |
The person who's investing at 5 percent, on the other hand, has 40 years investing, 00:10:01.600 |
has the possibility of doubling their money only 2.78 times. 00:10:08.040 |
Well, when you think about, let's say you have $200,000 a day, $200,000 doubled four 00:10:14.440 |
times leaves you with $3.2 million after the fourth doubling. 00:10:20.480 |
But if it's only doubled three times, that leaves you with $1.6 million after the doubling. 00:10:28.520 |
I think personally I'm probably guilty of being somewhat cavalier when it comes to interest 00:10:36.120 |
I generally try to make conservative estimates and I use various numbers at various times, 00:10:42.880 |
but I shouldn't be so cavalier and you shouldn't get the impression that there's a small difference 00:10:48.140 |
between a 5 percent rate of return and a 7 percent rate of return. 00:10:54.040 |
There's a huge difference between those two numbers. 00:11:01.420 |
That's why when it comes to investing, everything matters. 00:11:05.560 |
The fact that you invest the portfolio into an investment that has a higher probability 00:11:12.160 |
for a high, excuse me, that has a high probability for a higher rate of return, something moving 00:11:17.600 |
towards 7 percent or 8 percent or 9 percent or 10 percent because if you're investing 00:11:23.320 |
in stocks and bonds because it's more heavily weighted to stocks, that's a big, big deal. 00:11:31.560 |
The fact that you choose CDs or money market account and don't invest in stocks, that's 00:11:43.400 |
If we use the rule of 72 and we say if you're getting a 6 percent rate of return, 72 divided 00:11:55.560 |
However, if we use a 7 percent because you can trim off a 1 percent worth of expenses, 00:12:02.040 |
72 divided by 7 means that your money will double every 10.29 years. 00:12:07.440 |
Let's calculate the impact over a 40 or 50 year investment time horizon. 00:12:11.960 |
It could be huge, much bigger when you go longer than that, but let's just stick with 00:12:17.280 |
40 divided by 12 means that your money could double 3.33 times at 6 percent, but 40 divided 00:12:24.440 |
by 10.3 means that your money can double 3.88 times over the course of your 40 year investment 00:12:35.960 |
3.33 doubles versus 3.88 doubles is a big deal. 00:12:42.680 |
Think about your money at the end of your investment career and just think about that 00:12:49.440 |
Let's say it's a million dollars and think about the hundreds of thousands of dollars 00:12:53.500 |
that are represented by another half doubling period. 00:12:57.240 |
I'm getting a little tongue tied here with all these numbers in an audio format. 00:13:02.800 |
I want to impress upon you the fact that interest rate matters. 00:13:13.080 |
It's a little hard for many people to sit down with a spreadsheet, build a spreadsheet 00:13:18.560 |
that's going to show the impact of various rates of return and being able to visualize 00:13:24.640 |
Sometimes it's a little easier for many people to recognize how quickly their money is going 00:13:29.680 |
to double and how many doubling periods they can have. 00:13:37.240 |
If you're ever wondering how long will it take money to double or how long will it take 00:13:41.680 |
an expense to double, just take 72 and divide it by the rate. 00:13:48.000 |
Hopefully that will allow you to get around some of the problems of the money, the big 00:13:53.880 |
numbers which are hard for our brains to conceive of and conceptualize. 00:13:58.200 |
You'll be able to create a more accurate analysis for yourself. 00:14:07.320 |
But I can check the box now on my curriculum that we've talked about the rule of 72 on 00:14:13.800 |
For those of you who have been sending me voicemails for the episode 500 show, please 00:14:20.120 |
You can send those to Joshua@radicalpersonalfinance.com. 00:14:21.120 |
We're going to have a special celebratory episode for episode 500. 00:14:26.080 |
If you'd like to contribute your voice to that, I would love it if you would do that. 00:14:30.120 |
All you need to do is just simply pull out your phone, record a quick voice memo and 00:14:34.080 |
send that to me at Joshua@radicalpersonalfinance.com. 00:14:37.320 |
Specifically just tell me how the show has impacted you. 00:14:41.040 |
Tell your other listeners how the show has impacted you and what progress you've made 00:14:44.640 |
in the last few years of listening to Radical Personal Finance. 00:14:47.520 |
Please try to keep that to about two to three minutes so we don't bore your fellow listeners 00:14:51.840 |
insufferably and that'll be greatly appreciated. 00:14:56.040 |
While you're at that, please send me, if you would like to, feel free to send me a picture 00:15:01.160 |
I've just got that set up on a screensaver on my computer so that way when I'm recording 00:15:05.880 |
the show I get to look at all your beautiful family pictures. 00:15:09.440 |
It helps me to visualize who I'm speaking to each day. 00:15:12.920 |
If you'd like to support the show, please consider becoming a patron of the show. 00:15:31.640 |
This show is part of the Radical Life Media network of podcasts and resources.