So there was once this greedy Raja who made his servants work like crazy. The servants were told to grow rice but most of that rice was confiscated from them and kept in a storehouse for emergencies on the Raja’s orders. One year, the rice harvest was not as bountiful as in the past and the servants and their families were starving. They went to the Raja and begged him to open the storehouse but he refused. He wanted to keep the rice to himself.
Later that year, the Raja held a feast and invited some of the richest people in his kingdom. He ordered his servants to carry the rice from the storehouse to the grand feast. As the servants carried those sacks of rice, a woman saw that some of the rice was spilling out of a sack so she cupped her hands and collected the rice. The Raja saw what she was doing and screamed, “You thief! Hand over all the rice you just collected.” The woman simply replied, “I didn’t steal any rice. The sack your servants were carrying had a hole in it and I was going to give the rice that fell out back to you, your highness.” “Very well then,” the Raja said, “because of your honesty, I would like to grant you a wish. You can ask for anything you desire.” The woman thought for a moment and said, “I would like you to give me a grain of rice on day 1, a double of that on day 2, a double of day 2 rice on day 3 and so on for 30 days. That is, I wish for one grain of rice to double every day for 30 days.”
The Raja smirked at the wish and immediately agreed without knowing what he was getting into. By the 10th day, the Raja gave the woman five hundred and twelve grains of rice. “This woman is so stupid. She barely asked for anything,” thought the Raja. As the 21st day rolled around, the Raja gave the woman one million, forty eight thousand, five hundred seventy six grains of rice. The Raja glanced nervously at his shrinking stockpile of rice. As the 30th day rolled around, the Raja gave that woman five hundred and thirty-six million, eight hundred and seventy thousand, nine hundred and twelve grains of rice. Towards the end, the woman owned all the rice in the storehouse and she immediately distributed it amongst all the hungry people in the kingdom. This taught the Raja a couple of valuable lessons and that is…Don’t Be Greedy and…
This Compound Interest Thingy Is Truly Magical
Let’s say that I have $100 saved and since I really don’t have a use for it (my dad buys all the essential things for me…thanks dad 😁), that money can remain in my piggy bank. Or I could take my savings and build a product that I know kids my age will love and use. And say $100 is just the right amount of capital needed to fund that enterprise. So I do that and lo and behold, my business generates a 10% profit in its first year of existence. That is, the business generates a $10 profit on my $100 of the initial investment. The value of my business now is $100 in seed capital + $10 in profits = $110 at the end of year 1. I have a choice to make now. I could take that $10 that my business generated in profits and blow it on say cotton candy or if I really knew what I was doing and there was still unmet demand for my product, I would reinvest those profits back into my business. I decide to do the latter and in year 2, the business generates another 10% profit. But now, that 10% is on $110 and the value of my business at the end of year 2 is $121. And if I decide to continue to reinvest the profits back into the business, at the end of year 3, the value of my business will be $133, at the end of year 4, $146 and in year 5, $161.
So you see how the value of the business is not growing by just $10 each year but is accelerating at a faster and faster rate. That’s compound interest at work. That’s exponential growth where money makes money on money. It starts off slow and then it just takes off. If my business continues to flourish, by year 10, the value of my business at that same rate of profitability will be $259. But through all this, if reinvestment into the business was not a possibility for whatever reasons and I took those profits out each year and kept it in say my piggy bank at home, my net worth will be just $200; $100 from the value of the business and $10 each year in profits for 10 years.
And worse yet, if I were a spendthrift little brat, I could have used that $10 in business profits each year on say fidget spinners. No, on cotton candy. Anything really. And say I did that for 10 straight years, what’s the value of my business then? $100. How much total profits did my business generate? $100 but then I have nothing to show for it except maybe all the fun I had playing with fidget spinners. Or eating cotton candy 😀.
Here’s another trivia – if you had to choose between a million dollars in a month or one penny doubling every day for 31 days, which option would you choose? You might have guessed the right one considering what the Raja just went through but then blame my dad. He loves to play these tricks on me and sometimes on my little sister from time to time but without thinking it through, I jumped at the million dollar option.
And why would you not? A million dollars versus a penny and whatever that penny was supposed to do? But later in the day, I went back to that same question and decided to see what was the big deal with 1 penny doubling every day for 31 days. And I was stunned. I tried again and again to see if I was making a mistake but I kept getting that same enormous number which was much bigger than a million. And that number was $10,737,418.
And here’s how that happened…
One penny on day one turned to two by day two, then to four on day three and so on. By the tenth day, I was looking at $5.12, just enough to buy me a burger and fries. When I first saw that number, the last thing that came to my mind was that a measly five bucks and change would turn into ten million bucks.
But it did.
So all that magic happened in the last few days of the month. And this right here is what exponential growth looks like. If we were to plot this data with days on the x-axis and dollars on the y, the curve would almost appear to be a flat-line hugging the x-axis for quite a while and then it would just take off.
Of course there’s no investment in this world where you’ll be able to double your money each and every day but we can see many examples of this exponential growth for real. Take Warren Buffett, arguably the world’s most famous investor, and his net worth for example. At age 52, he was estimated to be worth about $250 million. Three years later, his net worth jumped to a billion dollars. Another four years later, to $3.6 billion. He is now 88 with an estimated net worth approaching $90 billion. Buffett started investing at age 11 and it took him 44 years to reach the first billion dollar mark. But from a billion to 90 billion took him just 33 years. That of course is a combination of great investing and the magic of compound interest at work.
So that’s all I have for now.
Thank you for reading.
Cover image credit – Leo Cardelli, Pexels