MONEY MATTERS-6

Rule of 72

When interest is compounded periodically, it is added to the principal for the next period and so on until maturity. Before we study about the power of compounding, let us see the Rule of 72 as a first step.

This rule is the rule of thumb to know the interest rate or the period of compounding, given one of them for DOUBLING a principal.

As per this Rule, a principal doubles approximately, when the product of interest rate and the duration (in years) is 72. This ‘72’ is constant. For example, where a deposit carries interest rate of 12 per cent, it doubles in 6 years. Similarly, a deposit doubles in 2 years when interest rate is 36 per cent; in 3 years when interest rate is 24 per cent;

in 4 years when interest rate is 18 per cent; in 5 years when interest rate is 14.4 per cent; and in 6 years when interest rate is 12 per cent.

This rule is useful to know approximately when an amount doubles at a given interest rate or to know the implied interest rate when the period in which the amount doubles is known. Test it and understand the basic of compounding. You can show yourself off as a wizard to those who’s ready new to this Rule.

We are now ready to devolve deeply into understanding the power of compounding. Wait for the next write up!

 MONEY MATTERS-5

INTERESTING INTEREST

Now you know about Savings, it is natural you would be interested in interest earned on your savings.

Interest is expressed as ‘rate per annum’ . Banks give interest on Savings deposits at 3 per cent per annum - i.e for keeping the deposit for one year, interest is paid at Rs. 3 per Rs.100.

Postal savings give a little higher rate. Fixed deposits with banks offer different interest rates depending on the duration of the deposit. The duration ranges from a few days (say a week) to 3 years generally and beyond 3 years also. Interest rates are announced periodically. Government announces the rates for Government Savings Schemes every quarter. 

Interest may be fixed or variable. Fixed rates offer same rate for entire period of deposit.Variable rates vary periodically based on the changes to the underlying bench mark rates which changes according to market rates.

Interest rates are classified as Simple interest rate or Compound interest rates.

Simple interest rate is the rate that is applied for the entire period of deposit. Where the deposit is for, say, 3 years and interest rate is 3 per cent simple payable at maturity, interest is paid at 9 

per cent for entire 3 years ( 3 x 3 ). Interest may be paid at the end of every year also.

In the case of compound interest, interest is considered every year and added to the principal (the deposit) and second year interest is applied on the increased principal. If Rs. 100 is placed as deposit, interest at 3 per cent is applied on Rs.103. It amounts to Rs.3.09 . So the principal for third year is Rs.106.09. Interest at 3 per cent on Rs.106.09 will be Rs. 3.18. The maturity amount at the end of 3 years is Rs.109.27 as against Rs.109 under simple interest method.

Generally interest is compounded every year.It is possible to compound interest every half year or every 3 months, or even every month.It can be even every day or continuous compounding o which is known as ‘perpetual’ compounding.

We will see more interesting information on compounding in next blog. Till that time, bye.

 Money Matters -4

 SAVINGS EQUATION

How to Save more? Answer lies in knowing & understanding SAVINGS EQUATION

The equation is simple:   Savings = Income -  Expenditure  —S = I - E  

Simple, but difficult to practise!  Why I choose to express it in an equation? 

Easy to remember always.  Give it a thought as often as you can, every time you spend, which is more 

often in our life, albeit daily! LOWER the Expenditure HIGHER the SAVINGS. So, Aim to lower the 

Expenditure. Avoid the avoidable, or at least postpone. Think twice. Chances are you will not spend 

on impulsive purchases and you will realise, it was a good decision. Often this is the easier part of the 

Equation. Even rich people follow it. CAUTION : you do not have to become MISERLY!

The other leg of the Equation is INCOME. You should aim to earn more. Learn new skill, Improve your 

Qualifications, Look for better opportunities. Be assertive to get recognised for your work or efforts.

EARNING YEARS are limited unless you are on your OWN business or profession! See if you can 

aspire to be your Own Master. That is active part of Income.

Know there is a PASSIVE part of Income. Income like Interest (on savings), Dividend on Investments, 

Annuities, Capital Gains ( Profit on sale of assets/ investments), Rental Income etc fall under this 

category. Of course, you need Savings or inheritance of assets for this. 

Strive to have as many streams of passive income as possible.  Then plan, set goals and work for 

increasing them. 

Knowing this is important. Expenses by nature will increase year after year, due to needs of different 

Stages of life ad it’s responsibilities.  Above all, Inflation is unavoidable. Look back on your expenses 

one, five, ten years ago under each Head of Expenses, you will realise it. Never underestimate this aspect.

Income, at least for working class, though may increase, slowly, will cease or drastically reduce over 

a period of time. THIS TRUTH WILL STARE AT YOU. Remember this. That would help to get 

a perspective of how difficult it is to achieve your savings goal. 

SIMPLE EQUATION but requires lot of efforts to practise it. If you know this at the outset, start early to 

save, save regularly, set goal and plan and execute on both sides of the Equation, you will achieve it and 

live a happy life. 

Bye until next blog.

Money Matters-3 

                                                                 DO NOT BORROW

Saving and Borrowing seldom go together! Exceptions are there which we will see later.

If you must borrow, 1. Keep it to the minimum, 2. Borrow for short periods only. 3.Borrow for 

essential needs only. 

Prefer borrowings for productive purposes rather than for unproductive ones.

Many times, it is a vicious debt trap, leading to more and more borrowings and one would never be

able  to come out of it. Credit card debt is an excellent example for this. Do you know the interest 

charged in it is the highest ever! Next comes unsecured borrowings, pawn broking. These should be 

avoided. 

It would be better to sell your asset than taking a loan from pawn broker against the asset, usually gold, 

durable assets etc. 

Assess your ability to service a debt. It is always your surplus - Earnings & Receipts less expenses and 

outgoings. 

Exceptions I referred are borrowings for Home, Vehicle, Education. In these cases, you can get 

loans at affordable rates. EMIs should be carefully chosen, ( depends on the duration of loans, longer 

the duration, lower is the EMI but total interest outgo will be high!). Theses loans are PAYE types.

PAY AS YOU EARN types. Self liquidating in nature. You either earn out of the asset or at least 

save on (recurring) expenditure which you would otherwise have to incur. So, it makes sense.

Here again, avoid having multiple loans. I have known cases where people borrow to pa EMIs, 

surest way to ge into DEBT TRAP!

Keep this in mind. Bye until next visit.