I’m going to share with you a little story that demonstrates the power of compounding, and the impact it could be having on you right now.
Stay with me – you’ll soon see why this is important.
A boy was once approached by a lazy man, who said he would pay the boy to sweep his porch each day for one month. He promised to pay $100 on the 30th day. The boy thought about it, and told the lazy man he would rather be paid 1 cent the first day, doubling daily. The man though he was crazy, but agreed.
Was his decision the right one? Here’s how his first five days looked:
- Day 1: $.01
- Day 2: $.02
- Day 3: $.04
- Day 4: $.08
- Day 5: $.16
So five days of sweeping has earned him 16 cents. Not a great income so far. But, with the genius of compounding at work, by day 15 he’d earned $164, which is $64 more than the rich man had offered to pay him.
But this is when things get exciting. After a slow start, the numbers begin to snowball rapidly, until by day 20, he’s earned $5,243. By day 30, our little sweep has netted a whopping $5.3 million.
Now, profits in ‘real life’ don’t generally double every single day. But they do compound – which means that every day your money is not invested in a growing asset, you’re potentially losing money.
Are you losing money in opportunity cost?
Opportunity cost is a calculation of the amount of money lost by a missed opportunity. So for example, if the boy had taken the man’s first offer of $100, he would have lost $5,299,900 in revenue. That’s the opportunity cost.
In real estate, opportunity cost can be calculated by comparing property you purchased to property you considered, but side-stepped. If the property you bought rose 6% in market value over three years, but the property you shunned rose 11%, then the difference in potential profit is considered your opportunity cost.
The cost of being idle
Now let’s look at our example of the boy in terms of your financial future. Every day, month and year that you delay taking steps towards securing your future wealth is costing you money. Every minute on the sidelines adds to your opportunity cost.
You can see by the calculations of the boy’s compounding income that investments start slowly. Initially, you see very little progress, but suddenly the snowball begins and the results can be mind-boggling.
That’s why it’s so important to begin your journey today.
Starting early, starting now
The wisest among us are in their 20s when they first begin looking at real estate as a means towards creating wealthy twilight years. Some of us are in our 40s, or even 50s, before we realise that time is slipping away and we don’t have the money in the bank to live comfortably without a working income.
A well-managed investment portfolio will see the effects of compounding value.
History has shown us that the longer you hold your assets, the more they’ll be worth when you need them later.
Most people strive for a happy and worry-free retirement, and maybe an early one at that, which is when your assets will be ready for you to utilise.
While I would always say it’s never too late to invest, I would also say that it’s optimal to invest early.
Each month that you sit on the sidelines is costing you hundreds of thousands in the long run.
What’s stopping you?
I’ve heard every excuse in the book about why people haven’t started implementing any strategy at all for growing and managing their finances.
All it takes is that first step and you’re on your way.
How big is your investment window today?
If you’re in your 20s, you’ve got a good 40-year window of time for compounding interest to do its work on your assets. That’s the best possible time frame you could ask for!
If you’re in your 30s, 40s or 50s, don’t sweat just yet.
Your investment window might be smaller, but there’s still time for solid investments to acquire capital growth – it might just mean contributing more to your portfolio to realise the same amount of gain than if you had a longer investment window.
Think about your own window.
Every month that passes while you sit on the sidelines, your investment window shortens and your opportunity costs add up.
How much is it costing you to wait?
About the Author:
Michael Yardney is a is a best-selling author and a leading expert in wealth creation and the psychology of success. Subscribe to his Property Update blog.