### The Beauty of Compounding & Importance of Rate of Interest

This is said so often, ever so often. We've learnt it in high school - remember all those simple interest and compound interest rate formulas? It's amazing - the simplicity of the math. What does compounding mean? Why is it used so often in conjunction with wealth creation?

Well, let's dive right into it. The amount that you are going to invest in your first year - say on 1st of January, that's the principal amount. Let's say you just received your year end bonus of 1 lakh; and you decide to place this entire sum in a Fixed Deposit (FD) in your regular bank; which gives you 6.5% interest per annum.

Let's see what happens to your money. Your money (1 lakh @ 6.5% per year) grows to 1 lakh and 6.5k in exactly one year. But the magic starts in the second year. Your new starting point is now 1,06,500 which @ 6.5% - becomes 1,13,423 by January 1, 2021 - i.e. after 2 years. In the table below, you can see how the money grows year on year (Y-O-Y).

But the beauty is understanding the importance of the rate of interest.

Looking at the figure on the right; you can see the different amounts after 7 years - @ 6.5%, 7% & 7.5%. There is a significant increase of 10k to your savings by getting 7.5% vs 6.5%. Imagine having put 10 lakhs as your starting principal - then the difference would be 10 times, i.e. - an increment of 1 lakh to your savings just by choosing a bank that gives you a 1% higher rate of interest. The amount you put in your FD is the same - only variable being the rate of interest.

I have not considered the tax component that may get cut from your interest component - but we shall delve into this at a later point.

How do I know how much rate of interest my bank offers?
Every bank puts up these figures on its website. I have copied the HDFC FD rate below as an example. These get updated regularly based on several macro factors, RBI guidelines etc.

Summary:
While compounding is a critical concept in wealth creation - it's important to also understand that - the rate of interest your bank offers you for your FD is important as well. Compounding starts to really show its magic after the first couple of years as your money grows - and the longer time frame you choose for your FD, the more savings you will amass.

### Should you take that \$100k job offer? A Tale on PPP.

If you took a notebook and pen, and travelled the world, and you wrote down the prices of a pack of 6 locally produced eggs in every supermarket in the world, what would you discover? Apart from the fact that you may have had a lousy trip, you will realize how cheap it is to buy eggs in Bucharest (Romania) and how it is more expensive to by eggs in Dubai (UAE). In a perfectly competitive world, all eggs everywhere would cost the same after factoring in the exchange rate. Same goes for Crude oil. Or for a Mattel toy car. Or for a Lego toy box. These should cost the same everywhere in the world. Except it is not the case. The PPP theory states that, over a long period of time, the cost of similar goods in 2 countries would be the same if you converted the currencies at the prevailing exchange rates. However, this rarely happens. Due to a host of reasons; transaction costs, government interventions, tariffs & duties, non-competitive prices or even sticky prices (wherein even with chan

### F.I.R.E - What Financial Independence & Retire Early Means

My mum loves sending me articles of how other 30-40 years old manage their finances. Recently, she shared with me an article that talked about how retired millionaires under 40 navigated the corona virus situation. But to be honest, I was not worried how they navigated the complete collapse in economies globally. I mean don't get me wrong, it is important - something I will cover in a later post. But I was more intrigued about the first part. How on earth were they able to retire as millionaires under 40!! Upon doing some online digging, I came to read about the concept of FIRE, again. I have heard this before. Have you? Or are you completely clueless - the way I was, the first time my colleague mentioned it to me? FIRE - as the title explains - refers to individuals that have gained financial independence and are now able to retire early - as they have reached the point where they don't have to work for money anymore. They can now do something they love, not having to sell awa

### Breaking down the 2008 Recession

It’s been more than a decade since the 2008 recession but a lot of people still don’t know what actually caused it, just like a lot of people do not know what caused the great depression. It’s important to learn and understand these, as they give you insights into what happens when financial instruments are abused and the government may or may not do its part and the importance of economic policies and how they can effectively bring countries out of tough times. What caused the 2008 recession? The US Fed had lowered interest rates after 9/11 to keep the economy going – to ensure that money was available for very cheap to every American. The low interest rates combined with the Fed’s home ownership policy encouraged more people to buy houses at low interest rates. The intentions were not bad. As a consequence, the total mortgage debt was as its peak by 2008. As more Americans bought homes, the real estate market boomed dramatically in the years between 2002 & 2008. Banks were en