Rule Of 72: What It Is And How To Calculate It

The Rule of 72 can illustrate how damaging small differences in fees can be. Secondly, the simple calculation does not consider things like inflation, fees, and taxes, which can drastically influence the final realized return of the investment. Where y is the years to double and r is the expected rate of return or interest rate of the investment. A big mistake many novice investors make is trying to make up for lost time when they weren’t investing by chasing unrealistic returns, rather than adjusting how much their putting toward their investment account.

Does the Rule of 72 Work for Stocks?

The rule of 72 is a simple method to determine the amount of time investment would take to double, given a fixed annual interest rate. The rule of 70 is used to determine the number of years it takes for a variable to double by dividing the number 70 by the variable’s growth rate. The rule of 70 is generally used to determine how long it would take for an investment to double given the annual rate of return. The Rule of 72 is a clever mathematical formula that can be used to determine an investment’s compound growth rate. The Rule of 72 approximates the annual return of an investment, making it extremely useful for Paper LBOs. The Rule of 72 is just a mathematical formula and can be applied to anything that grows, such as the economy, a company’s EBITDA, population, number of Instagram followers, etc.

To see how long it will take an investment to double, state the future value as 2 and the present value as 1. Hence, adding 1 (for the 3 points higher than 8%) to 72 leads to using the rule of 73 for higher precision. For a 14% rate of return, it would be the rule of 74 (adding what is the rule of 72 2 for 6 percentage points higher), and for a 5% rate of return, it will mean reducing 1 (for 3 percentage points lower) to lead to the rule of 71.

• However, this method works most accurately for returns between 5% and 10%, where compounding behaves predictably.
• But it’s important to know that at extreme rates—either very high or low—the rule becomes less precise due to the non-linear nature of exponential growth.
• For example, assume an investor invests $20,000 at a 10% fixed annual interest rate.
• Let’s look at how different types of investments have grown—and sometimes shrunk—over time.
• According to the Rule of 72, this increases the doubling time from 9 years (72 ÷ 8) to 12 years (72 ÷ 6).

The Formula for the Rule of 72

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However, the rule can be very useful in helping to inform your return objectives and investment strategy as long as you remember that it’s only a tool for making very broad estimates. The Rule of 72 can be used for any asset that grows at a compounded rate. Compounding returns is a powerful force when it comes to saving and investing, since interest is calculated both on the initial principal plus accumulated interest from previous periods. The rule of 72 is a simple way to estimate the number of years it takes an investment to double in value at a given annual rate of return. It’s calculated by dividing the number 72 by the annual rate of return.

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Below, we take you through how to use it and what to watch out for as you consider different rates of return. Therefore, at a rate of return of 5%, the Rule of 72 becomes the Rule of 71. A headache-inducing derivation is beyond the scope of this article, but if it were to be done, it would actually yield the Rule of 69.3. Since that isn’t a very easily divisible number, 72 works a little better.

How Accurate Is the Rule of 72?

It’s a simple formula that anyone with elementary school math skills can calculate. It also allows you to set realistic expectations for your investments and can help you determine whether your financial goals are achievable within your investment time frame. Young adults often gravitate toward higher-risk investments due to the potential for exponential growth.

This is the number of periods it will take the investment to double in value. Profit and prosper with the best of Kiplinger’s advice on investing, taxes, retirement, personal finance and much more. Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more – straight to your e-mail. If you’ve dabbled in investing, you’ve likely heard of the “Rule of 72.” It’s a back-of-the-envelope metric for calculating how quickly an investment will double in value.