Individual The main idea behind investing is for an individual to take an amount of money and use it to make a larger amount of money. The obvious problem behind this objective is that it is often easier said then done. Far too many people attempt to use investments as a get rich quick. schemes. Unfortunately, these individuals generally end up losing more than they make. For the vast majority of people, investing is a process that requires a bit of solid knowledge and a lot of patience. This patience results in some nice dividends in the long run due to a market force called compound interest.

Compound interest is the powerful growth effect that takes place over time as interest is continually added onto a principal balance. Let. s see an example of how this might work.

Example

A woman decides to invest a lump sum of $20,000 for her child. s college education. The money will be withdrawn in 20 years. Over the course of the next 20 years the woman averages a 10% annual return on investment. Many people might think that her earnings would equal $40,000. ($20,000 x 10%= $2,000) ($2,000x 20 years = $40,000), however this is not the case. Thanks to the power of compound interest she would earn a significantly larger amount. After the first year she earns $2,000 in interest, which makes the balance $22,000. Consequently, at the end of the second year she earns $2,200 in interest, which makes the new balance $24,200. Because the interest continues to compound the final total after 20 years is $134,550.

In our example the process of compound interest created a gain of $114,550. It is important to note that there are a couple of additional factors which could work to increase that total. First and foremost is time. The longer a balance is able to compound the more dramatic the results will be. This fact should prevent individuals from putting aside their savings plans until a future date. By delaying an investment they are essentially taking money out of their own pockets. The second factor is for people to making additional deposits into the investment. Consistent savings will go along way in increasing the balance and making the effects of compound interest even more powerful.