It is often said that Albert Einstein thought highly of the concept of compound interest strategies applied to savings and investing; there are a couple of quotes attributed to the famous physicist about compounding, but it is unlikely that he actually said them. What we know with certainty is that billionaire investor Warren Buffett has made compound interest the central aspect of his lifetime investing strategy, and it has truly worked wonders-
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The Principle of Compound Interest
In the world of personal finance, interest is an amount paid over a previously established amount, and it is invariably expressed as a percentage that we call interest rate. When you shop around for credit cards, you pay attention to the annual percentage rate (APR) because you do not want to pay too much above your credit purchases or cash advances. When selecting a savings account that can help you achieve compound interest financial goals, you will be looking for banks that offer higher annual percentage yield (APY), which means that they pay more above your account balance.
Not all banks offer compound interest accounts; many instead offer simple interest accounts that do not reinvest the interest that has already accumulated, thus reducing the exponential factor when compared to compounding accounts. This contrast between simple and compound interest cannot be stressed enough. You always want to look for personal finance interests that pay compound interest even when the APY is lower than their simple interest counterparts.
Compound Interest Calculator Math
You don’t have to be a numbers wizard to understand the basic daily compound interest formula. In essence, this is a mathematical constant that can be expressed as a logarithm, which means that there is an exponentiation property at play. Let’s look at the factors within the compound interest formula:
P * (1 + R / N) ^ (N * T)
