The Millionaire’s Secret
There once was a King…
Nearly 1500 years ago, in Northern India lived a man. Not just any man, a King. The King lived in his castle with his servants and maids. He had a great passion for board games but over time he became bored. He got so good at the games, it was like his people were letting him win. He needed a new challenge.
He ordered his men, to search the land for a new game. They looked everywhere but no game they presented to the King piqued even the slightest interest. He was about to give up on his search when he had a message from one of his servants to say a young man was at the castle gates and urgently wanted to speak to the King. Unusually, the King waved him in but growing tired and frustrated he grunted: “you’ve got 5 minutes”.
Fed up, the King slouched in his favourite chair. A young man appeared shortly after, standing in the doorway. He was clutching a chequered, black and white board under his arm which intrigued the King. He immediately sat up and invited the young man to sit opposite him. The young man walked slowly to the glass table and laid the 8 square by 8 square board down flat. He explained the rules of the game and they ended up playing the game deep into the night. The King announced he’d call the game Chess.
The King was delighted to have finally found his game and as a thank you asked the young man to name his reward. The King was surprised by his request…
“My wishes are simple. I only wish for one grain of rice for the first square of the chessboard, two grains for the second square, four grains for the third square, eight for the fourth square and so on for all 64 squares.”
The King, surprised by his answer replied “Oh so young and naïve. I am the King, I can give you gold or silver”.
The boy gratefully replied. “Thank you for your kind offer your Highness but I’m a simple man. The grains of rice will do just fine.”
The king looked at his servants and said “As the man wishes” and led him out of the castle grounds.
We’ll revisit this story shortly.
The Millionaire’s Secret
Compound interest is the millionaire’s secret. Einstein described it as “the 8th wonder of the world”.
Put simply, compound interest is interest on interest. If it’s used positively, it’s free money.
Imagine that we invested £1000 and that over the year it went up by 10% bringing our total to £1100 (£1000 our original amount plus £100 interest). If we were to then re-invest this £1100 for another year and again it went up by 10% we would have £1210 by the end of that year. We’ve now made £210 profit since we started. This means that £10 is essentially free money because it’s interest on our interest.
I get it. £10 doesn’t seem worth getting too excited about but look what happens when we regularly invest.
Example 1
Imagine, I invest £5000 as a lump sum and then add £250 a month for 12 months in a 0% saver. This would give me £8000 (£5000 lump sum + £3000).
Example 2
However, if we took a different approach and still invested a lump sum of £5000 and still added £250 a month for 12 months but this time managed to make 8% interest over the year. This time I would have £8,548.23. This is already a big difference but it gets better.
Let’s look over a longer period (this is where the magic happens)…
If we were to continue with Example 1, after 10 years of saving we’d have £35,000. In Example 2, over the same amount of time, we’d have £57,139.62. That’s a difference of £22,139.62. It’s all free money.
What’s more, the longer we keep this up for, the wider the gap. Using the same examples as above but over 30 years, the difference would be a whopping £334,752.48!
What happened to our friend the King?
Weeks passed, until one day the King saw his men unloading dozens after dozen of wagons, full of bags of rice. What could they possibly be doing with all of that rice he thought to himself.
Catching the eye of a trusty servant, he asked, did the boy who invented my game ever get his rice?
“We’re still working on it, your righteousness — he’s asked for 368,934,881,474,191 bags (1kg) of rice!”
What happened?
Compound interest. That’s what!
What the king hadn’t taken into account was the power of compound interest.
Let me explain.
There are 64 squares on a chessboard. 8 x 8 squares. The first line would look like this
Square 1–1 grain of rice
Square 2–2 grains of rice
Square 3–4 grains of rice
Square 4–8 grains of rice
Square 5–16 grains of rice
Square 6–32 grains of rice
Square 7–64 grains of rice
Square 8–128 grains of rice
So far so good but notice what happens to the numbers in the next row.
Square 9–256 grain of rice
Square 10–512 grains of rice
Square 11–1,024 grains of rice
Square 12–2,048 grains of rice
Square 13–4,096 grains of rice
Square 14–8,192 grains of rice
Square 15–16,384 grains of rice
Square 16–32,768 grains of rice
Remember, we are only a quarter of the way through now. Let’s move ahead a bit.
Square 32 (half way) — 2,147,483,648 grains of rice
And finally…
Square 64–9,223,372,036,854,780,000 grains of rice.
In total this would be 18,446,744,073,709,600,000 grains of rice. If we were to walk into a shop and ask for this, it’d be Eighteen quintillions, four hundred and forty-six quadrillion, seven hundred and forty-four trillion, seventy-three billion, seven hundred and nine million, six hundred thousand grains of rice. Please.
Apparently, a 1kg bag of rice contains around 50,000 grains so the young boy asked for a whopping 368,934,881,474,191 bags!
Final thoughts…
I first became aware of compound interest a couple of years ago. I’d got myself into a bit of a mess with credit cards, paying to travel and buying the latest gadget with a half-eaten fruit on the side. To be honest, I couldn’t see a way out.
Each month felt like a real stress but the credit card bills weren’t coming down at all. I seemed to be paying more and more each month, but the number on the statement just wouldn’t budge so I did what I always do when I have a problem. I read.
I read loads of books, listened to lots of really good audiobooks on managing finances and budgets and while I don’t profess to be an expert on the subject, just having a basic understanding of compound interest has helped shape the way I see money.
If nothing else, I hope that this post serves as a bit of an eye-opener into the positive effects of compound interest.
I would recommend that you do your own research though. Two resources I have found particularly interesting and recommend to everyone are www.daveramsey.com and a book called ‘How to Own the World’ by Andrew Craig.
P.S the story about the history of chess, isn’t entirely accurate (if at all) but hopefully it got the point across! 😊
