COMPOUND INTEREST

"The most powerful force in the world is compound interest." If you don't want to take my word for it then how about Albert Einstein, the man credited with that quote! Compound interest is what makes your money grow when you invest it in a savings account. It's also the reason your debts grow fast if you don't pay them off quickly. The principle of compounding works similarly to the snowball effect.

• Your initial deposit gains interest over a year.
• If you keep the capital there, it has grown by X amount over the course of the year in interest.
• On the first anniversary of your account being open, you can reinvest the initial deposit and the interest earned. From there, you are earning interest in year two on the initial deposit plus the interest from year one.

The more you save and the faster you save, the more you'll end up with. In year one, you are earning interest on the capital. Year two, you are earning interest on capital and interest from year one. In year three, you are earning interest on the capital and interest from year one and interest from year two and so on.

That's why, for wealth creation, it's important to follow the best available rate available in a savings account. There is a big difference between 3% and 6% return. It also stands to reason that the earlier you start, the more you will have in time. Shares operate along the same lines. Anytime you are paid a dividend you should look at reinvesting it (a dividend is in place of interest) in more shares.

This is an example of who compound interest would work for Sally:

Sally starts off with €1000 and she's earning 10% per annum on her capital. If she reinvests the interest each time, it will grow at a bigger rate each year (stripping out DIRT for the sake of this exercise).

Sally has more than doubled her investment in 9 years and that's from the initial investment of €1000. If you have money sitting in a savings account earning no interest whatsoever, then €1000 will never grow to be anymore than just that and at the same time have its real value eroded by inflation. Register for the forum and ask us where to find the best savings rates!