Stockerati

The rule of 72 is often cited as a quick and handy way to analyze the potential of your investments. To quickly determine how many years or what annual rate-of-return you need to double your investments, use the following formula

Rate of Return =   72/ Number of years

In order to double your investment in 5 years you need a 72/5 = 14.4% annual rate of return

and, it’ll take you

7.2 years to double your investments at a 10% annual r.o.r.

My big issue with this formula is that it totally discounts the inflation rate. Assuming an avg inflation of 4%, $100 today will equate to $50 in 18 years. So, while your investments are compounding based on your target levels set by the Rule of 72, the net amount you get at the end of the day is depreciating due to inflation. Most financial advisors, unfortunately, use the rule of 72 to determine the target growth levels.

Having thought about this some, I modified the Rule of 72 to be more realistic. It’s the Rule of (72 + I), where I = inflation rate.

Rate of Return =  (72 + I) / Number of years

I use I = 4.5% for my computations, so for me it’s the Rule of 76.5 :)

Using the same examples discussed earlier, with this rule you now require a 15.3% r.o.r inorder to really double your money in 5 years (with I = 4.5%) and you now require 7.65 years to double your money at a 10% r.o.r.

Just a useful tip for the investor in you…