Thomas K. Philips
Volume 8, Number 4, Fourth Quarter 2010
Financial planners often impress upon their clients the power of compounding by quoting them the Rule of 72: With annual compounding, a dollar invested in an investment account at a constant interest rate of r% per annum grows to two dollars in approximately 72/r years. In this note I show that the Rule of 72 is easily extended to lifetime savings: If an investor invests one dollar at the start of each year over the course of her working life at a constant interest rate of r% per annum, approximately half the terminal value of her account can be attributed to the first 72/r years of contributions. The result, while simple, seems not to be well known, and has repeatedly proven useful when counseling young investors on the importance of saving for retirement from an early age, particularly when their primary retirement vehicle is a 401(k) plan.