All You Need to Know About Compound Interest In Finances

You want to start investing, However, you don’t have much money to start. Well, we are happy to tell you that we have good news for you.

In reality, it is not necessary to have a large sum of money to start your path towards investing. What’s more, even if you have a small amount saved, the best decision you can make is to take your money and try to make a profit from it. You can even get a lot of returns on your savings even if you don’t have a large sum in your checking account.

Because investment, despite what many think, is for everyone. To encourage you to start taking the first steps on this path to profitability, today we want to talk to you about compounding in finance.

What is compounding? It is the process of adding interest to interest on the principal sum of a deposit. You can look at it as reinvesting interest rather than paying it out. Also known as compound interest, it’s one of the easiest ways to build savings.

Compound interest: the investment of your investment

Compound interest refers to the interest that the profitability of your initial investment provides over the years. That is the return that the interest on your contribution at the beginning of the investment is offering and that generates new benefits for you.

Said like this, it may sound a little confusing, but with a good example, we are sure you will understand it. Let’s suppose that this year you have managed to save 1,000 naira (as we say, you don’t need large amounts to start investing) and you want to invest them.

The first step you have to take is to know your investor profile, the risk you are willing to assume, and some objectives for that investment. Once this is done, it is time to choose a financial product that answers all these questions.

A year later, your initial investment has achieved a 10% profit, so you now have 1,100 naira. Therefore, the following year instead of having the initial 1,000 naira invested, you will have 100 more naira that will offer you new returns.

The following year, with another 10% annual return, your assets will have risen to 1,210 naira. And as the years go by, (if everything goes well, of course, remember that every investment carries risks) your money will continue to grow. That is, the new profits from your investment will continue to give you new returns, thus increasing your assets but also your invested money.

To compare it to a more visual example,  we could think of investing as a snowball falling from the top of a mountain and getting bigger and bigger. The snowball at the beginning would be your initial investment, and all the snow that is added and attracting more snow would be the compound interest.

Recommended Read: Step-by-step Guide On How to Write a Cheque

Conclusion

One of the clearest benefits of compound interest is that it increases your investment assets naturally without you having to “worry” about it. If all goes well, your money will increase and will be reinvested and grow exponentially.

However, it should be noted that although compound interest is very beneficial for our investments, thinking about a future plan based only on this would be, at best, crazy. Obviously, it reinforces our investment and makes it grow, but if we invest thinking about the future or even doing so in the short term, it will not be enough.

Check Out: The Power of Compound Interest: Calculations and Examples


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