The Rule of 72 definition
/What is the Rule of 72?
The Rule of 72 is a calculation used to estimate the number of years it will take to double one’s invested money, given a specific annual rate of return. The rule is useful in situations where you do not have access to more precise methods of calculation, such as an electronic spreadsheet or a calculator.
How to Calculate the Rule of 72
The calculation is to divide 72 by the interest rate on the invested funds. The formula is as follows:
(72 ÷ Interest rate on invested funds) = Number of years to double investment
Several examples of Rule of 72 outcomes are as follows:
1% interest rate. (72 / 1 = 72.0 years)
2% interest rate. (72 / 2 = 36.0 years)
3% interest rate. (72 / 3 = 24.0 years)
4% interest rate. (72 / 4 = 18.0 years)
5% interest rate. (72 / 5 = 14.4 years)
6% interest rate. (72 / 6 = 12.0 years)
7% interest rate. (72 / 7 = 10.3 years)
8% interest rate. (72 / 8 = 9.0 years)
9% interest rate. (72 / 9 = 8.0 years)
10% interest rate. (72 / 10 = 7.2 years)
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The Rule of 72 is fairly accurate for low rates of return, and becomes increasingly inaccurate when higher rates of return are incorporated into the calculation. Consequently, it is best to use a calculator or electronic spreadsheet to more precisely determine the doubling period for higher rates of return.
Dividing the interest rate into 69 yields a more accurate result if you assume continuous interest compounding, but it is more difficult to manually divide into 69 than to divide into 72.
The Rule of 72 has other applications than investing funds. For example, if a country has a sustainable growth rate of 4%, the economy should double in 18 years. Or, if a population is growing at a rate of 1% per year, then the population will double in 72 years.
Problems with the Rule of 72
Other than the fact that this is only an estimating tool, the other issue with the rule is that it generally applies to longer periods of time. When estimating over longer periods, the ability to achieve consistent returns is problematic, so the actual returns achieved are likely to vary from what the rule indicates.