On... Only Time Matters?

Compounding is the 8th wonder of the world. And it works wonders if compounding is done over the long term.

However, sometimes the importance of time in compounding can be taken over the top as if it is the only important aspect of increasing one's wealth. Time is important but we have to look at other factors as well in our Financial Planning.

Figure 1 shows the scenario of compounding my Networth by 4 percent per annum over twenty years. With a starting value of 600 AUD, and additional injection of 600 AUD annually. That takes us to a total of 20,000 AUD.

You can see the 'hockey stick' part of the chart forming as we're entering our 20th year. From there on, it probably goes parabolic. That shows that compounding works best if we have a long time frame. However, what if we missed the first 10 years? Is that the end of our compounding dreams? Actually, not at all. We often state that time is the greatest part of compounding. Well, yes, you need to compound for a long time but Value is also a very important factor.

Figure 2 shows that you can still catch up if you missed the first 10 years (peach bar). What you have lost in time, you will have to make up with Value. What do we learn from this? That it is never too late to Compound. Don't let the importance of time, keep you away from investing. If you start investing late in your life, make it up by a bigger injection of capital.

And lastly, don't underplay the importance of regular injection of capital. Compounding is magic, but it works best if you have regular savings. Purple Bar in Figure 3 shows a similar return profile to the earlier 2 Scenarios. But in this Scenario, we exclude the Annual Injection of 600 AUD. It looks good, but this Scenario has a growth rate of 12 percent. 3 times the return of Scenarios 1 and 2!

Although time is important, Compounding takes a lot of factors into account. We should model all parameters in our modelling.