Compound Interest
Interest calculated on both the initial principal and all previously accumulated interest. Often called the "eighth wonder of the world," it is the primary driver of long-term investment growth.
Compound interest is the process by which an investment's earnings are reinvested to generate additional earnings over time. Unlike simple interest, which is calculated only on the original principal, compound interest accelerates growth by earning "interest on interest."
The Power of Compounding
Consider an investment of $10,000 earning 8% annually:
- After 10 years: approximately $21,589
- After 20 years: approximately $46,610
- After 30 years: approximately $100,627
The key takeaway is that the growth is exponential, not linear. More than half of the final balance is generated in the last 10 years, illustrating why starting early is the single most powerful investment decision you can make. Even small differences in return compound dramatically over decades—a reason to minimize fees and choose low-cost ETFs and index funds.
Compounding applies not only to interest but also to reinvested dividends and capital gains. The longer your time horizon, the more compounding works in your favor.