Ah, the ever-reliable Rule of 72, the handy mental shortcut that determines or approximates how long your money (investments) will double.
For example, suppose you placed your money in a bank for a time deposit. The bank tells you your investment will be given a 2% interest per annum. Now you wonder, what is the projected growth of your money?
Using the Rule of 72, simply divide 72 with the interest rate (e.g. 2%) to approximate the years. So, theoretically, with a mere 2%, your money will double in 36 years.
The formula was (supposedly) invented by the equally-reliable and the oft-quoted Albert Einstein.
To be more accurate, the Rule of 72 was invented 400 years before Einstein by an Italian mathematician named, Luca Pacioli, the father of accounting and a collaborator of Leonardo da Vinci.
Regardless, Einstein is more famous and more saleable.
Apparently, 72 has become an important number in the financial world. Knowing the simple Rule of 72 is a must for investors and insurance policyholders.
If 72 only rings a bell to you as the number of wins the Chicago Bulls had in ‘96, or the year ABBA was formed, then read on as we chart down the 11 mad advantages of the Rule of 72
Determine the Future Value in Seconds
The value of money is never constant; it grows and deflates, depending on where it’s placed. In general, when money is invested in something, money has a corresponding interest rate. This interest rate will give an approximation of how much your present money will be valued in the future. For example, your P100 today can be worth P150 in 10 years’ time, depending on its rate of return.
Therefore, using the formula of the Rule of 72 gives you the app-like speed to do two things: be able to value your investment based on the interest rate;
And when you are given an approximate value of your money in the future, you’d be able to compute the interest rate it was based on.
Get Around Investment Salestalk
Some investment and insurance agents just work too hard to make a sale that sometimes they would give the future value of your investments off the bat. As long as they don’t say it’s a “guarantee” that’s OK. But to be sure they’re not making things up just to make their proposal more attractive, quickly use the Rule of 72, and see if their approximation fits the window of possibility.
Understand the Effect of Inflation
Inflation is the evil, evil twin of interest rates. It’s the price we all pay for expecting a higher return for our money. If everyone expects that, our interests lead to a surge of pricing all over. The Rule of 72 will inform you of how inflation devalues your un-invested money and the dangers of not putting them in an interest-bearing account.
Makes you curious of the number 72
Before we proceed, first of all, why 72? It’s a fabulous number because 72 is divisible by seven out of nine of the single-digit numbers—1, 2, 3, 4, 6, 8, 9—giving whole, a straightforward number of years every time it is divided.
72 / 8 (interest rate) = 9 (years); 72/ 6 (interest rate) = 12 (years); 72 / 4 (interest rate) = 18 (years); and so on.
Probably, this makes you curious even further: are there other numbers besides 72?
A Big YES.
Remember, the Rule of 72 is a mere approximation. If you want to be more accurate in valuing money (especially with annual compounding interests), some math geeks use the Rule of 71. The Rule of 69.3 is best with daily compounding interests; while the Rule of 70 is just rounding off the Rule of 69.3 (because how many of us want to divide 69.3 in our heads?).
Makes your life much easier
Below is the formula for Future Value:
FV = PV (1 x r)n
Where PV stands for Present Value, r for interest rate, n for the number of periods;
Memorize this alongside the formula of PV and interest rate.
Really, life is much easier without so much math to memorize, no?
A Minor Financial Nostradamus
Since we’re talking about predicting the future value of a number, and since you’ll get it right 90% of the time using the Rule of 72, we might as well regard ourselves the mini version of Nostradamus. Next time someone asks you how long will their money to double…
Be like Nostradamus…
Act like Nostradamus…
… And thank God for Luca Pacioli!
Double? How about Triple?
In case you find yourself in an unfortunate situation when you know all about the Rule of 72, and some smart ass asks you how long will their money to triple, you can’t just add another 36 to 72?
There is no such thing as the Rule of 108.
Thank the Gods of Accounting, however, for giving us the Rule of 114. The Rule of 114 divided by the interest rate will give you the closest approximation for your money to triple.
If the smart ass is a smarter ass and asks for a quadruple value. The Rule of 144 will let you deal with him appropriately.
It’s an Economic Indicator
The health and performance of an economy are often measured by common indicators – the unemployment rate, GDP, GNP, the price of crude oil, and yes, interest rates.
In the same way, the Rule of 72 can serve as the benchmark of success for investors, if the aforementioned investment did indeed doubled with the aforementioned interest rate and within the approximate number of years.
The Eighth Wonder of the World?
The Rule of 72 is often marketed as the Eight Wonder of the World. But it shouldn’t be; I believe the Fibonnacci’s Golden Ratio is a better contender, the divine number 1.618, or Phi, found everywhere in nature, apparently.
The Rule of 72 was Luca Pacioli’s attempt to find something equally special in the world of finance, mirroring his idol, Fibonacci.
This is why the Rule of 72 acts and behaves like a Fibonacci sequence. But make no mistake, the Rule isn’t the golden ratio. It’s not meant to be aesthetically pleasing. It’s cold, ruthless math, reflecting the nature of finance.
Still, if you know the Rule of 72 and knowing how many years money would double every-single-time, you’re golden, my friend.
Other Rules? What Other Rules?
Since you’ve come to know the Rule of 72, why stop there?
There are others: the Rule of 1.5, the Rule of 6, the Rule of 10, the Rule of 100, the Rule of 1,080, the 80/20 principle, the law of large numbers, and, of course, the Fibonacci sequence.
Again, the Rule of 72 makes you a curious cat. Especially if you’re a cat who wants to be a millionaire.
Look like an Expert
Last, but not the least, simply knowing about the Rule of 72 is a handy tool. For starters, it doesn’t make you look like an illiterate with financial matters.
Applying the Rule of 72 makes you realize the potential value of your money that, with the right investment portfolio, could grow into a giant gorilla, climb the Empire State Building, and roar violently on top (pardon my metaphors for getting out of hand).