The Magic of Compound Interest

How can 1 be a big number? Well, let me add this behind the numeral, 1%. Let me add another phrase behind it. 1% compounding interest. 

Granted, I doubt anyone will sell you a 1% interest endowment plan, or any other financial vehicles to be exact. But as someone who's still taking baby steps in the financial world, you've got to learn that less is more. 

Allow me to illustrate how $1000 dollars compounded at 1% annually for 50 years will snowball into a much larger sum. Before that, make an estimate of how much it would be. If it's near, you've got the idea. If not, you will now.

1Y - $1010
2Y - $1020.1
5Y - $1051.01
10Y - $1104.62
20Y - $1220.19
30Y - $1347.85
40Y - $1488.86
50Y - $1644.63

In 50 years, your $1000 principal would have increased by 64%, and that's only at 1%. You may be thinking, it's still not a lot of money. Or hopefully you already know what's going on. 

I'll raise the percentage a little, to 3%. If you leave $1000 compounding at 3% for 50 years, it's $4383.91 at the end of it. That's quadruple your original amount, and only an increase of 2%.

Humans are simple, if it's money given to you 50 years later, you will be thinking that it isn't much.

Now, let's swap the scenario. What if it's money given to someone else? Then now you're probably thinking otherwise.

Unfortunately, 1% isn't enough for insurance companies to earn. They charge you more. Way more. I'll illustrate an ILP that was marketed to me a few months back. I'll skip the fine print and tell you straight, it charges more than 5% in fees as well as a monthly maintenance fee.

Assuming I'm paying $300SGD a month, I'll get a bonus of 100+% that first year to 'kickstart' the investment. Cool right? Read on.

Let's do the math. If I'm earning an average of 8% returns with this plan, here's what I should get at the end of 30 years after compounding it (exclusive of bonus start-up) :

Premiums Paid Per Year: $3600
Total Premiums Paid in 30 Years: $108000

Compounding at 8% Interest:

I should get: $440,445.12

Check out the Benefits Illustration shown below. If you don't really know how to see it, focus on the total premium, non-guaranteed surrender value at 8% and the effect of deductions. Effect of Deductions are technically what the company will take from you to pay the advisor, and to cover other fees. In other words, it's money you're not getting.