The Power of Compound Interest: How Starting Early Can Build Wealth

Gregg Brant - Wealth Advisor, CFP®

One of the most powerful tools in your financial toolkit is compound interest. Compound interest has the potential to significantly grow your wealth over time, especially if you start early. Understanding how compound interest works and the benefits of starting to save and invest sooner rather than later can make all the difference in achieving your long-term financial goals.


What is Compound Interest?

At its core, compound interest is the process by which the interest earned on an investment is reinvested, so that in subsequent periods, interest is earned on the original principal and on the interest that has already been added. In simple terms, it’s "interest on interest," and it allows your money to grow at an accelerating rate over time.
For example, if you invest $1,000 at an annual interest rate of 5%, you would earn $50 in the first year, making your total $1,050. In the second year, you would earn interest not just on the original $1,000, but on the entire $1,050, resulting in $52.50 of interest. Over time, this compounding effect can lead to exponential growth of your investment.


The Impact of Time on Compound Interest

The key to maximizing the benefits of compound interest is time. The earlier you start saving and investing, the more time your money has to grow. This is because the longer your money is invested, the more interest it earns, and the more interest is added to your principal, creating a snowball effect.
To illustrate the impact of time, consider two scenarios:

• Person A starts investing $200 a month at age 25 and continues until age 35, then stops contributing but leaves the money invested.
• Person B starts investing $200 a month at age 35 and continues until age 65.
  
  

Assuming both earn an average annual return of 7%, Person A would have invested a total of $24,000, while Person B would have invested $72,000. However, by age 65, Person A’s investment would have grown to approximately $300,000, while Person B’s investment would only be around $230,000. Despite investing less money, Person A ends up with more, thanks to the power of compound interest and the extra decade of growth.


Why Starting Early Matters
Starting early gives your money more time to compound, which is especially important when it comes to long-term goals like retirement. Even small amounts invested consistently over time can grow into substantial sums. This is why financial experts often stress the importance of saving and investing as soon as possible.
Delaying your investments, even by just a few years, can have a significant impact on your final savings. The longer you wait, the more you'll need to invest to reach the same goal. For example, if you start saving at age 25, you might need to invest $200 a month to reach your retirement goal. If you wait until age 35 to start, you might need to invest $400 or more per month to catch up.

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Conclusion
The power of compound interest is one of the most compelling reasons to start saving and investing as early as possible. By giving your money more time to grow, you can take full advantage of compound interest and set yourself up for long-term financial success. Even if you can only start with a small amount, the key is to start now. Over time, you’ll be amazed at how your money can grow and how early investing can help you achieve your financial dreams.