How Compounding Work: How investors Can Cut the Cost of Workplace Drama, End Entitlements, and Achieve Big Results

How Compounding Work:How investors Can Cut the Cost of Workplace Drama, End Entitlements, and Achieve Big Results

About This Book:

Compounding is what happens when you take a number and increase it over and over again by a percentage (think “10% annual growth”). That’s opposed to increasing it by a fixed number (think “add 10 each year”).

To demonstrate how the mathemagical phenomenon of compounding works, let’s use a delicious example: lattes. (ICYMI, we’re here at Ellevest.)

OK, say you drink 100 lattes a month. That would be a highly concerning caffeine level, but we’re trying to make the math easy here. So one day, your fairy frothmother shows up and tells you that she is granting your wish: That milky (or soy milky or oat milky) goodness will increase by 10% every month.

OK, so 10% of 100 lattes is 10 more lattes, right? Right. So here’s how you might assume that would look:

Month 0 (when you start): 100
Month 1: 100 + 10 = 110
Month 2: 100 + 10 + 10 = 120
Month 3: 100 + 10 + 10 + 10 = 130
Month 4: 100 + 10 + 10 + 10 + 10 = 140
Month 5: 100 + 10 + 10 + 10 + 10 + 10 = 150
Total extra lattes after 5 months: 50

But that’s not actually how compounding works. You don’t just get an additional 10% of your original 100 lattes every month. Instead, you get an additional 10% of your total number of lattes every month (rounded below because who wants only part of a latte?):

Month 0 (when you start): 100
Month 1: 100 + (100 x 10%) = 110
Month 2: 110 + (110 x 10%) = 121
Month 3: 121 + (121 x 10%) = 133
Month 4: 133 + (133 x 10%) = 146
Month 5: 146 + (146 x 10%) = 161
Total extra lattes after 5 months: 61

Boom. When the number is compounded, you end up with more coffee in the end. That’s the magic. (Very high-energy magic.)

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