5/17/2017 CalculatingCompoundInterestByHand

MarginalPropensitytoSave
JesusPaidItAll

CalculatingCompoundInterestByHand

April20,2011(20110420T07:00:46+00:00)byTim<http://www.patheos.com/blogs/faithandfinance/author/tim/>

AlbertEinsteinoncesaidThemostpowerfulforceintheuniverseiscompound
interest.Intheworldofinvesting,compoundinterestisdefinitelyyourbestfriend.It
canalmostseemlikeamystery,butthereISawaytocalculatecompoundinterestby
hand.Workinginthefinancialindustry,Iveusedthisequationonmultipleoccasions
togivepeopleanideaofwhattheirinvestmentswouldyieldoveraperiodoftime.By
theendofthisarticle,youllbeabletodothesameandmaybeimpressyourfriends(or
evenyourself)withthemostpowerfulforceintheuniverse.:)

TheCompoundInterestEquation
First,takealookatthisequation.Itsthebasiccompoundinterestformula.

A=P(1+i)n

A=Amountofmoneyaccumulatedafternyears,includinginterest

P=Originalprincipalamount

i=Interestrate

n=numberofyearsofcompounding

UsingtheFormula

Igenerallyuseasimplecalculator(add,subtract,multiply,divide)tosolveasimple
compoundingcalculation.First,Istartinsidetheparenthesisandaddthe1tothe
interestrate.Iftheratewas5%,Identer1.05intomycalculator.

Thenextpointtoconsiderishowmanyyearsitwillcompound.Ifitisfor5years,I
knowthatn=5,sothe1.05(insidetheparenthesis)needstoberaisedtothefifth
power.Youcandothisbymultiplying1.05byitselfforatotalof5times(simplesofar
Ihope).1.05x1.05x1.05x1.05x1.05=1.276282.Thisisthecompoundinterest
factor.

Finally,youtaketheprincipalamountandmultiplyitbythecompoundinterest
factor.Letssaywewanttoknowwhat$10,000willcompoundintoafter5yearsata
rateof5%.Byusingthecompoundinterestfactorthatwefoundinstep2,wecan
multiplythatfigurebytheprincipalandfindthevalue.1.276282x$10,000=
$12,762.82.Attheendof5years,$10,000willturninto$12,762.82compounded
annually.(checkthemath
here<http://www.moneychimp.com/calculator/compound_interest_calculator.htm>)
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5/17/2017 CalculatingCompoundInterestByHand

CompoundingInterestAtDifferentFrequencies
Ifyourelookingforevenmoreofachallenge,youcanactuallygetalittlemore
technicalwiththecompoundingequation.Youcancompoundoveranyperiodoftime
(annually,quarterly,monthly,daily)soherestheequationtodoso.

compound
interest
(compoundinterest)
<http://wp.production.patheos.com/blogs/faithandfinance/files/2011/04/compoundinterest.jpg>

Youllnoticeanewvariable(t).T=thenumberoftimestheinterestwillcompound
eachyear.Ifitsmonthly,thent=12.Ifitsquarterly,t=4.Ifyourewantingto
calculatethisformofcompoundinterestbyhand,youllneedtofirstmultiplythe
factortogether(nt),whichwilltellyouhowmanytimestomultiplythecentervariable
byitself.

Insidetheparenthesis,theequationisfairlystraightforward.Simplydividethe
interestratebythenumberofperiods(t)andthenaddthatto1.Youllthentakethis
sumandmultiplyitbyitselffornttimes.(Remember,youmultipliednbytandcame
upwithafactor).

YoucanthenmultiplyitbytheP(originalprincipal)andhaveyourcompounded
interestvalue.

Haveyouevercompoundedinterestbyhand?Doyouthinkyoullgivethis
equationatry?

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