Understanding Compound Interest

Compound interest occurs when you earn interest not only on your initial investment (principal) but also on the accumulated interest from previous periods. This creates a snowball effect that can dramatically grow your wealth over time.

Key Components of Your Investment Growth

• Initial Investment: Your starting amount. A larger initial investment gives you a head start on compound growth.
• Regular Contributions: Consistently adding money accelerates your wealth building through dollar-cost averaging.
• Interest Rate: Higher rates lead to faster growth. The S&P 500 has historically returned about 7% after inflation.
• Time Horizon: The longer you invest, the more powerful compound interest becomes.
• Compound Frequency: More frequent compounding (monthly vs. annually) results in slightly higher returns.

Important Considerations

• Tax Impact: Investment returns in taxable accounts are reduced by your tax rate. Consider tax-advantaged accounts like 401(k)s and IRAs.
• Inflation: Inflation reduces purchasing power over time. The calculator's inflation-adjusted results show your real returns.
• Risk vs. Return: Higher potential returns typically come with higher risk. Diversification helps manage risk.
• Investment Costs: Fees and expenses can significantly impact long-term returns. Look for low-cost investment options.

Investment Strategy Tips

• Start investing early to maximize compound interest
• Invest regularly regardless of market conditions
• Diversify across different asset classes
• Keep costs low with index funds or ETFs
• Reinvest dividends and capital gains
• Review and rebalance your portfolio periodically