Do you want to increase your savings exponentially and have large long-term wealth? Knowing how compound interest works is essential to achieving your goals and enjoying good financial health. To generate compound interest, it is essential to invest. Several types of investments allow you to generate compound interest, such as Afores, personal retirement plans, bank notes, or crowdfunding.
You only get compound interest if you reinvest the profits left by your investments instead of withdrawing them. That’s what will make your money multiply. We give you all the details about this concept and why some call it “the most powerful force in the universe.”
What is interest?
It is an index that measures the profitability of savings and investments and the cost of a bank loan. It is expressed as a percentage. If the interest is high, it is beneficial for savers and investors because they will get more returns on their money, but it is harmful for those who ask for a loan since it will be more expensive. If the interest is low, it is beneficial for those who need or have financing since the cost of the money is cheaper. However, it is harmful to investors because their savings generate fewer profits.
The interest can be simple or compound.
What is simple interest?
They are the returns from the initial capital you invested. Unlike compound interest, those returns are not reinvested or accumulated. For example, if you invest 2,000 USD a month on yotepresto.com or 24,000 USD a year at an annual rate of 16.5 per cent, you will get USD of profit.
Initial capital: $24,000; returns or simple interest: $3,960 Total capital in a year: $27,960
If you decide to take out the returns instead of reinvesting them, you would be making profits on the initial capital, that is, simple interest. Although at first the returns of simple interest look attractive, they are lower than what compound interest can give you. Below, we explain it to you in more detail.
What is compound interest?
They are the returns you get by investing an initial capital plus the accumulated returns generated by that initial capital. Basically, it’s when you make money and reinvest those profits instead of taking out and/or spending them all. Compound interest generates a multiplier effect since the returns you earn are added and increased along with the initial capital. That is, all the profits from previous periods are added up, and with it, your money grows faster, with an effect similar to a snowball.
How is compound interest calculated?
We already point out that if you invest 2,000 pesos a month on yotepresto.com at an annual rate of 16.5 percent, you will get three thousand 960 pesos of returns, or simple interest. Now look at what happens if you decide to continue investing your initial capital plus simple interest for a second year at the same rate mentioned above.
Accumulated capital: $27,960 Second year’s returns: $4613.4 Total capital: $32,573.4
First, you can see that the returns you get are higher since they are calculated on the money you invested plus your first year’s earnings. Check out this table to see how, gradually and over time, your money grows exponentially with compound interest:
Why is compound interest important?
Compound interest will help you achieve medium- and long-term financial goals faster, for example, buying a house or opening a business. It also helps you accumulate more resources when you reach retirement age, i.e., when you stop working. This interest rate will allow you to be better economically protected in an emergency or unforeseen event.
What compound investment tools are there?
Many investments, regardless of risk, term, or amount, allow you to reinvest your money and benefit from the magic of compound interest. We will only mention a few examples for you to take into account:
1. Certificates from the Federation Treasury
The official cetesdirecto.com page gives you the option to automatically reinvest the capital and returns of the cetes you acquire, regardless of their term.
2. Investments for retirement
Both the retirement fund administrators (Afores) and the personal retirement plans (PPR) make their profits through reinvestments. Being money destined for your retirement in old age, it is understood that it is a resource that you will not withdraw ahead of time unless you suffer an economic crisis (losing your job, for example), so the Afores and financial institutions can maximize profits by reinvesting the capital they manage.
3. Promissory Notes
Generally, banks and financial institutions that allow you to invest in promissory notes can reinvest your money in these instruments at the end of the initial term. This can greatly help raise the profits and value of your money in the long term since, generally, the initial returns of the promissory notes are lower than current inflation.
4. Crowdfunding
Fintech companies have brought the world of investments closer to thousands of people with easy-to-use platforms, few requirements, and an internet connection. One of the most popular options is crowdfunding, which, in addition to helping you finance projects, ventures, and people, allows you to maximise long-term returns.
Two prominent crowdfunding platforms support compound interest investments:
- Real estate crowdfunding: these are companies and/or applications that allow you to invest in real estate and make a profit in different ways: finance projects under construction, obtain income from renting or selling commercial premises or apartments, etc.
- Crowdlending, or loans between people, is an investment alternative where you earn good returns by lending to people with a good credit history and proven ability to pay. The leading fintech in this field is Yotepresto.com.
Recommendations to take advantage of compound interest
The magic of compound interest will not happen overnight. It is a medium- to long-term process where patience and perseverance are fundamental, since the palpable results are observed after several years of work and effort in your investments.
So we give you some tips so that you can also enjoy the advantages of compound interest:
1. Spend time: monitor your investments and reinvest your profits.
2. Don’t lose patience: maybe in the first few months you won’t see the desired profits and you get frustrated, leading you to withdraw your investments. Do not despair—compound interest only affects those who wait.
3. Invest in certified instruments: the cetes, personal plans for retirement, and other instruments have the regulations of official financial organizations such as the National Banking and Securities Commission (CNBV), giving you the assurance that they can grow for several years, a fundamental aspect of compound interest.
Now that you know about compound interest, how do you plan to take advantage of it?
