I was taught in my management school that how one should understand that borrowing is an art, lending is a science and investment is a cross word puzzle.
That is, quick understanding of the financial implications of the numbers behind them is very important both for the borrowers, lenders and for the investors. In the context of current wild fluctuations in the micro and macro indicators of the economy it is further more essential for a lay man or a novice to finance and investment jungle to understand the wonder of number 72.
The rule of 72 is simple and powerful and is a great mental math shortcut to estimate the effect of growth rate. In fact it is a helpful trick that guides you to understand many back of the envelope financial calculations mentally at great ease without resorting to calculators.
Many of my friends expressed to me that understanding the compound interest calculations is very complex and the very thought of it much more daunting and therefore most of them follow others to avoid the journey through the calculation jungle!
Therefore they succumb to great herd instinct which in turn dominates the decision making process.
My friends had openly expressed their difficulty in understanding the sales discount impact and installment payment mystery announced from time to time in the shopping malls for purchase of costly cell phones, furniture and other household items and so on. The same is the status of mind when you, plan your insurance, or try to adjust the inflationary impact on your savings and loan repayment installments and so on.
I told my well wisher friend Mr. Eight hills that every trade has a thumb rule. Hundreds of street smart calculations are available orally for every trade and no calculators are used and these are all beyond text book financial knowledge. But the strategy and approach is being passed from person to person over the years. Actually it is for any one to fix those calculations to their respective environment and future life requirement cycle. As you know financial planning is very much individualistic in nature.
(The rule of 70 and the rule of 69 are methods for estimating an investment’s doubling time and rule of 113 to determine how many years it will take to triple your money). (Click for calculations- Rule of 72 – Wikipedia, the free encyclopedia) The rule of 72 is a remarkably accurate and a much easier way to determine quickly how long it will take to double your money as long as the interest rate is below 20 %.( above 20%, the rule becomes significantly inaccurate.) you can use the rule of 72 forwards and backwards.
Hold your breath and no need to understand its mathematical background etc. Read the following observations and apply to your requirements from time to time. This will help you to shape your thinking and approach to the subject.
At 8% interest rate your money takes 72/8 or 9 years to double-To double your money in 10 years, get an interest rate of 72/10 or 7.2%-If your country’s GDP grows at 4% a year, the economy doubles in 72/4 or 23 years-If your growth slips to 2%, it will double in 36 years-If growth increases to 5%, the economy doubles in 72/5 or 14.4 years.- If inflation rates go from 2% to 3%, your money will lose half its value in 36 or 24 years-.If college/school tuition/medication fees increases at 5% per year (which is greater than inflation), then costs will double in 72/5 or about 14.4 years. If you pay 15% interest on your credit cards, the amount you owe will double in only 72/15 or 4.8 years! – If you pay 16% interest on your purchase of new car or AC or washing machine or other gadgets the amount you owe will double in 4.5 years-In today’s inflation rate of 7.73 % in a country like India it takes your Rs.100 to depreciate to Rs.50 in9.31 years. That is, a grand down of 50 percent. Home loan borrowers should be aware of this fact! One can extend the application of number 72 calculation to different areas of your saving, investment, insurance, stock investing, and portfolio management and so on.
Good luck.
