A Good Primer on the Rule of 72

Thought this was a pretty concise primer on the Rule of 72, one of the most important calculations a market pro can keep in the back of his/ her mind.  This is a highly useful tool, so I thought I’d pass on this version I found on GigaOM this morning:

The Rule of 72 (or 69.3 or 70)

If you invest in the stock market and expect your money to earn a return of 5 percent per year, how long will it take for your money to double? If a VC is managing $100 million and limited partners expect a 25 percent annual return, how often do they need to double their money?

The Rule of 72 is a linear approximation — one of the coolest applications of derivatives for the pragmatic businessman. Here is a simple derivation for those of you who care.  For everyone else, simply divide the expected (compounding) return into 69, 70 or 72 to find the number of periods it takes to double. So it will take us roughly 14 years to double our money at a 5 percent expected annual return and the VC will need to double his fund every three years or so in order to hit the target return of his limited partners.

Understand that this is an approximation and varies with the size of the return — see the table below from Wikipedia to get a better idea of the precision of the approximation.

ruleof72

Sources:

3 Quick and Dirty Business Hacks (GigaOM)

Full Disclosure:  The above should not be considered research or advice, it is simply an explanation of a widely known mathematic principle and all data comes from Wikipedia.

What's been said:

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