Sunday, 9 May 2010

Understanding Compound Interest

Compound interest can be calculated with the following formula:

FV = PV (1 + i)^N

FV = Future Value (the amount you will have in the future)

PV = Present Value (the amount you have today)

i = Interest (your rate of return or interest rate earned)

N = Number of Years (the length of time you invest)


Assume you have £1000 and you want to invest it for 10 years. You found an investment with 10% return, so after this period what will you have? £1000*((1+ 10%)^10) almost £2,600

If the interest was 0.05%, then after 10 years you would have almost £1,630.

So, in the former example you would have £1600 interest whereas in the later only £630 which is slightly above third of the former although the later interest rate was only half of the former.

Regular Saving

Now, imagine you'd save £1000 every year for 10 years and each year the interest rate would be 10%.

How much will you have at the end of the 10 years?

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