Rule of 72
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Definition of The Rule of 72:
The rule of 72
is a tool most commonly used by investors to estimate the time it takes to double an investment at a given interest rate.
Ever wonder how long it would take to double your money when making an investment? Divide 72 by your expected return to approximate the number of years. For example, if you are a conservative investor and purchase a certificate of deposit at your local bank that yields 1%, it will take 72 years to double your money. If you purchase stocks that return an average of 6%, then you will double the value of your portfolio in 12 years. The formula is:
72 / R = Y
R is your expected rate of return and Y is the number of years it is estimated to double your money.
The rule of 72 can also be used to calculate the interest rate needed to double your return in a specified amount of time. In that case the formula is:
72 / Y = R
The rule of 72 can also be used when measuring the impact of inflation. We can calculate that the expected inflation rate is 9% if it is predicted that prices will double in eight years.
It is most common to use the rule of 72 in financial calculations, but it can also be used in other exponential relationships. For example, how many years would it take for a country’s population to double if it is growing at 2% annually? Using the rule of 72, we can estimate that it would take 36 years to double this country’s population. The rule of 72 is most accurate when the interest rate is less than 10 percent.
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