Rule of 72 Definition
Rule of 72 refers to the approach of determining that how much time long term investment will take in getting double value at the fixed rate of interest and it is calculated by dividing the annual rate of interest by 72 and it will give the estimation of time in which the investment will get double in value
In simple terms, the Rule of 72 is a formula that helps us understand when we can double our investment.
As an investor, you need to know the rate of return. And then all you need to do is to take the number 72 and divide it by the rate of return. And you will get the duration of time that will double your investment.
Here, r = the rate of return
Alternatively, there can be another 72 rule formula.
Here, you would be able to know the rate of return at which you would be able to double your investment.
Here. t = duration of time
Deeds Inc. has been offering a 9% return on the investment of $200,000. Find out when the money will get double. Also if the investors want to double their money in 6 years, what would be the available rate?
By using the first formula of 72 rule, we get –
- = 72 / r = 72 / 9 = 8 years.
- It will take 8 years to double the money.
Coming to the next question, we can use the second formula of Rule of 72.
- = 72 / t = 72 / 6 = 12%.
- At a 12% rate, the investors can double the money within 6 years.
Let’s understand the above two equations in detail.
The first formula is all about “when”.
And the next formula is all about “what rate”.
- In the first formula, the investor isn’t sure about the time duration of the investment. She needs to use the formula to come to a conclusion.
- In the second formula, the investor isn’t sure about the rate of return on the investment. In other words, in the second formula, the investor isn’t sure at what rate she would be able to double her investment.
As an investor, you should use both.
- Let’s say that you’re investing a sum of $100,000 into an investment. They are offering you a 10% return.
- Using the first equation, we can easily find out when you will double your investment.
- = 72 / r = 72 / 10 = 7.2 years.
- Now, let’s say that the investor wants the money to double within 6 years.
What should she do in that case?
- She needs to use the second equation to reach the conclusion.
- = 72 / t = 72 / 6 = 12%.
- To double the money the investor puts into the investment within 6 years, she needs to get a rate of return of 12%.
Use and Relevance
- If an investor needs to know the basics about the investments, he/she should have formulas that are useful and at the same time can deliver quick results. It is very useful and can help investors quickly.
- Even if the investors don’t know anything about investment, they can quickly use these formulas to know the basics of the investments. However, the rule of 72 can’t act as substitutes of financial ratios.
Rule of 72 Calculator
You can use the following Rule of 72 Calculator.
|Rule of 72 Formula =||
Rule of 72 Calculation in Excel
Let us now do the same example above in Excel.
This is very simple. You can easily calculate the ratio in the template provided.
This has been a guide to Rule of 72 Formula. Here we explain how this formula helps investors know when they can double their investments along with practical examples. Here, we also provide you rule of 72 calculator that is used to figure out the cost or time period when your investment is doubled. You may also have a look at these articles below to learn more about Corporate Finance –