I have a theory - and it is only a theory but here goes.
The thing with compounding is that it takes an awfully long time before it starts to really do it's thing.
Just like its cousin, simple interest, it limps along for the first few years, before it starts to take steps, followed by strides and finally great big gorgeous leaps - leaving its simple cousin eating dust.
Quite simply, I think people get bored because the waiting is akin to watching paint dry.
It links in neatly with two of my other articles: The Chessboard Story and What's the quickest way to make a small fortune?
Consider the case of £100 increasing at 10% a year.
| End of Year | Simple Interest | Compound Interest | Percentage difference |
|---|---|---|---|
| 1 | £110.00 | £110.00 | 0% |
| 2 | £120.00 | £121.00 | 0.1% |
| 3 | £130.00 | £133.10 | 2.4% |
| 4 | £140.00 | £146.41 | 4.6% |
| 5 | £150.00 | £161.05 | 7.4% |
| 6 | £160.00 | £177.16 | 10.7% |
| 7 | £170.00 | £194.87 | 14.6% |
| 8 | £180.00 | £214.36 | 19.1% |
| 9 | £190.00 | £235.79 | 24.1% |
| 10 | £200.00 | £259.37 | 29.7% |
| 11 | £210.00 | £285.31 | 35.9% |
| 12 | £220.00 | £313.84 | 42.7% |
| 13 | £230.00 | £345.23 | 50.1% |
| 14 | £240.00 | £379.75 | 58.2% |
| 15 | £250.00 | £417.72 | 67.1% |
| 16 | £260.00 | £459.49 | 76.7% |
| 17 | £270.00 | £505.44 | 87.2% |
| 18 | £280.00 | £555.98 | 98.6% |
| 19 | £290.00 | £611.58 | 111.0% |
| 20 | £300.00 | £672.74 | 124.0% |
You can see for the first three or so years, the difference between the simple interest and compound interest columns is minimal.
It takes seven years for the difference between the simple interest and compound interest columns to top 15%.
The results are even more pronounced when you use a longer time scale and/ or higher interest rate. (I would put in more tables but the html for this one table has taken me the best part of this evening to work out)
My theory is simply that the majority of people run out of patience whilst waiting for the compounding magic show to get out of first gear.
I chose the picture to illustrate the shapes of the graph for compound and simple interest. You can see for yourself that, for the first few years, there is not much in it between compound and simple interest.
It is a known fact that human being like regular rewards on their journey to achieve the big goal - I read that in one of the pseudo psychology books I like to indulge in occassionally. But I do think it makes common sense.
It is my theory if the results of compound interest matched the shape of simple interest, there would bean explosion of interest.
