š”Curious Friday : Warren Buffet on his advice on investing, How to make millions from the Principle of compounding and Staying Bullish on Indians.
Episode - 07
Today at a Glance :Ā
One Quote : Warren Buffet on his one of the biggest pieces of advice about investing.
One Article : Compounding 101
One Tweet : Balaji Srinivasan on one of the best advice on staying bullish on Indians.Ā
One Quote :Ā
āThe most important thing to do if you find yourself in a hole is to stop digging.ā
Investments can go bad, and when they do, itās best to bow out and stop throwing money at it. It is a difficult decision to make, but accepting the loss will prove to be more beneficial financially.
One Article :Ā
Compounding is regarded as the eight wonders of the world but very few people are familiar with this effective principle that could make them rich.
Whenever I talk with people about money principles or some financial advice, they only have one thing inside their brain - that is how to get rich quickly. People need to understand that Investing takes time. It requires extreme focus, emotions and brain to build a successful portfolio but some few seconds of errors and impatience to doom that portfolio. As Warren Buffet rightly said-
āInvesting is like growing grass or watching paint dryā.
You can not trade in and out in the market - you need to survive in the market for a longer time. Similar is the compound Investing - Itās the outstanding and the most effective principles that most of the Investors miss and this is the reason why they remain broke, because they didnāt know the basic principles of compounding.Ā
Compounding is difficult because making your money compound involves severe time, patience and Endurance. And thatās where most of the people/investors donāt get it. They want some quick money out of the market, they donāt have patience, Endurance. Then, they suffer from the volatility, crashes and undervalued returns. As Morgan Housel rightly said-Ā
āMost people canāt do compounding because they cannot survive one bad month, but they donāt see that after the survival of 1 bad month, there is a joy and happiness of 11 good months.ā
So, in todayās newsletter weāll glean into the concepts of compounding and weāll understand it better with help of some examples.Ā
What is Compounding and why you should give a sh*t to this divine principle.
Albert Einstein famously said - āCompound interest is the eighth wonder of the world. He who understands it, earns it; he who doesn't, pays it."
So whatās actually compounding and why you should care for it. Letās clear it with some basic definitions.
Simple Interest, as youāll know, is the interest that is paid only to the initial principal balance.Ā
Compound interest, basically, is interest that is paid on the initial principal balance plus the accumulated interest from prior periods.
In other words, Compound Interest is the interest paid on the interest and then it is again paid on the interest on both of the previously collective interests and this cycle/chain goes on and on. Thatās why time is the most powerful weapon of compounding.Ā
So, why should you care about compound interest? Letās understand it with a couple of examples.Ā
Imagine you work for a tech company that was just acquired by Google. You cash out your stock options and receive a windfall of $1 million.
Your colleague Paul is in the same situation. You and Paul both decide depositing it in a bank is the safe move.
Simple Bank offers a high-yield savings account with 10% simple annual interest.
Compound Bank offers a high-yield savings account with 8% compound annual interest.
*Disclaimer: No, these rates are not real.Paul sees the 10% rate from Simple Bank and opens an account, depositing his $1 million.
You, on the other hand, have read the Einstein quote on compound interest, and decide to open an account at Compound Bank. You're in this for the long-run.
So what happens next?
Paul's 10% simple interest will earn him $100K every year (10% on $1m principal).
Your 8% compound interest will earn you $80K the 1st year (8% on $1m principal), $86K the 2nd year (8% on $1.08m), etc.
You earn more interest every year. Paul earns the same amount.After 1 year, Paul has $1.1 million and you have just $1.08 million. He gloats about his financial prowess.
"Just wait," you tell him confidently.
By year 7, you have leapfrogged Paul.
By year 20, he has $3 million to your $4.7.
By year 30, he has $4 million to your $10!
"You should have listened to my guy Albert," you tell him over the phone from the library in your mansion.
The key here is that with compound interest, you receive the rate of return on both the principal and the accumulated interest.
It creates a snowball effect, of sorts.The same concept applies to stock markets, as the returns of this year compound upon the returns from last year.
Historically, putting money in a market index fund and allowing it to compound (reinvesting dividends) was the simplest, best way to build long-term wealth.
Compound Interest doesnāt only apply to money. It has some good and profounding effects on our lives too.Trust Einstein. Whether with savings, investments, or knowledge, let it compound!
Let me tell you another real and interesting story.
As I write this, Warren Buffetās net worth is $101.2 billion. Of that, $84.2 billion was accumulated after his 50th birthday. $81.5 billion came after he qualified for Social Security, in his mid-60s. The real key to his success is that heās been a phenomenal investor for three quarters of a century. Had he
started investing in his 30s and retired in his 60s, few people would have ever heard of him.Ā
Buffet began serious investing when he was 10 years old. By the time he was 30 he had a net worth of $1 million, or $9.3 million adjusted for inflation and heās been able to generate this with an annual average return of 22%. Thatās why he is a phenomenal investor. His weapon is compounding, but his secret is time.
Nobody has heard of this man yet. Jim Simons, head of the hedge fund Renaissance Technologies, has compounded money at 66% annually since 1988. No one comes close to this record. As we just saw, Buffet has compounded at roughly 22% annually, a third as much.Ā
Simonsā net worth, as I write, is $21 billion. He isāand I know how
ridiculous this sounds given the numbers weāre dealing withā75% less rich than Buffett. Why the difference, if Simons is such a better investor? Because Simons did not find his investment stride until he was 50 years old. Heās had less than half as many years to compound as Buffet.Ā
If Jim Simons had earned his 66% annual returns for the 70-year span Buffet has built his wealth he would
be worthāplease hold your breathāsixty-three quintillion nine hundred quadrillion seven hundred eighty-one trillion seven hundred eighty billion seven hundred forty-eight million one hundred sixty thousand dollars. Thatās fuc*ing insane.Ā
If I ask you to calculate 8+8+8+8+8+8+8+8+8 in your head, you can do it in a few seconds (itās 72). If I ask you to calculate 8Ć8Ć8Ć8Ć8Ć8Ć8Ć8Ć8, your head will explode (itās 134,217,728).
Thatās the real power of compounding and thatās the main reason why you should care about it too.Ā
One Tweet :Ā
In the above Tweet, Balaji Srinivasan talked and discussed about staying bullish on India and staying bullish on Indians. The most valuable threads I came across recently and a must read one.
I hope that you have loved reading the newsletter and have found value from it.Ā
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