When reviewing your saving and investment options it’s important to understand the power of compounding interest.

The video helps you understand the basics principles of compounding both in terms of a one off investment, and a regular savings plan.

The end result will depend on the regularity of saving and the type of investment or investments you choose.

If you would prefer to read about the power of compounding, a transcript of the video is provided further below.

Video Transcript

Having a plan or strategy to save money regularly is considered one of the cornerstones of creating long-term wealth.

To begin, however, we want to show the magic of compounding returns.

Compounding returns is when you start to earn rewards on the rewards.

For example, if you invest £100 into an investment and it earns 10% return your £100 will become £110.

If you then get a further 10% return in the following period, the sum increases to £121, because the next 10% increases both your original amount and the previous return.

In the early stages of a compounding situation, the effect isn’t too obvious but the further you go down the line the more the magical impact starts to transform the outcome.

Look at this situation over 40 years where an invested sum increases at 8% in value every year and note how the value accelerates in the later years.

This example shows what happens assuming you invest £100 as a ‘one off’ and let it roll up, but now imagine the situation where you invest £100 per month, so you continually add new amounts. This is pouring fuel on the fire, but in this case in a very positive way.

Continually transferring funds from the present day to the future develops wealth.

And, if you are a parent teaching your children, this story is one of the greatest gifts you can bestow on them, if it helps them to start saving from the moment they start earning.

As an example you may be interested in how to become a millionaire by the age of 65 using the savings habit. To illustrate this we can show the amount you need to save each month to generate this amount.

In the examples we have shown so far we have used different rates of investment return on the money saved.

This highlights a crucial point.

Deciding to save is the starting position, how you save and where you invest your savings is also very important.

Let’s say you have decided to save £100 per month and you put this into a bank account, paying 2% per year interest and this rate of return does not change over the next 30 years.

How much will your £100 per month become? £49,354

But let’s say that instead of this you had chosen a different investment which performed better and increased at 5% per year, in that case your £100 per month would have turned into £83,572

That extra amount – more than £34,000 – was achieved by the decision where to invest.

The keys to a good savings approach really boils down to three things:

1. How much you save

2. How soon you start

3. The return you will get on the amounts saved

Anything you can do to find extra amounts to put aside each month, the more you will generate in future wealth for yourself. Look for ways to spend less and save more.

The sooner anyone can start saving the bigger the impact. Anyone who starts saving from the day they start earning will gain incredible value.

Finding higher rather than lower returns makes a difference, particularly over time.

It is not easy to find higher returns, but the effort is worthwhile.

Using tax efficient savings accounts, such as ISAs and Pensions, could make a difference as taxes could reduce returns.

As will using accounts which invest in real assets such as shares, as based on historical evidence these are likely to produce better returns in the longer-term, although these come with higher risk.

However, if the savings period is long enough the risk should be reduced as periods of falling values can be recovered over time and a smoothing effect can apply.

In conclusion, having a structured and disciplined approach to savings produces wonderful support to a successful long-term financial plan.

In many ways it is the bedrock of a successful plan.

We are here to help you find a suitable savings solution.

Are you primarily looking for an income from your investments and savings?

Download this free guide to help you understand how find the best income solutions in a low interest rate environment.

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To speak to an experienced Cardiff-based IFA about investment strategies and the power of compounding interest, contact Tony Thomas on 07585 592494 or tony@wealthmasters.co.uk

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