When will Your Money Double? (Rule of 72)
Understanding rates of return may not be the easiest subject for investors, but there's a simple rule of thumb that may help show the significance of a percentage point here or time horizon there. It's called the Rule of 72 and it works like this:
If you know the interest rate (or rate of appreciation) or the time in years, dividing that number into 72 will give you a good approximation of the unknown number. For example, if you're receiving a 9% rate of return, then dividing 9 into 72 tells you that it will take about 8 years to double your money. Conversely, if you want to double your money in, say, five years, then dividing 5 into 72 tells you that you'll need about a 14.4% return to achieve this goal. The rule, long known to accountants and bankers, provides a rough idea of the time needed for capital to double.
So if you think that a difference of 1 or 2% won't amount to much, you're seriously underestimating the power of compounding, and you'll pay a price in the long run. If one stock appreciates at 10% and another at 12%, the Rule of 72 tells you that the first will take 7.2 years to double while the second will need only six years. The advantage increases for investors who hold (or increase their stake) over a decade or two. This simple rule of thumb is also useful when comparing alternatives such as bonds or CDs that may yield 4-6% to stocks that have appreciated more than 11% since 1926. A 6% interest rate will double the principle value in 12 years, while a stock appreciating at 11% will take less than 7 years to double.