Rule of 72 is a formula that determines the approximate time required to double an investment in value at a given interest rate.
The rule states that 72 divided by the annual rate of return will return the number of years required to double the investment.
Confused? For example, at 8% interest per annum, an investment will double in value in 9 years (72/8 = 9).
Let's say you expect a mutual fund investment to deliver an annualised return of at least 12%.
Let's work this situation into the formula: 72/12 = 6.
It will take six years for such an investment to grow from Rs 10,000 to Rs 20,000.
The formula only gives you a rough idea of how much time you need to reach the milestone of 2x growth at an expected rate of return.
Let's take another example. Let's say you start an FD today with Rs 30,000 at 7.5% per annum.
72/7.5 = 9.6 This essentially means that your investment will grow to about Rs 60,000 in approximately 9.6 years.
Please note that this is assuming annual compounding, whereas FDs in most banks are compounded quarterly. This essentially means that your actual return will be higher.
Now you know how this simple formula can help you understand the concept of interest rate and compounding over time. you may use it to compare different investments and understand their potential growth.
If you divide the number 72 by the number of years, the result will be the annual rate of return required. Got it? Do the math.