A College Professor's Lesson on Compounding

by Jeff C. Johnson

Jeff Johnson's Personal Finance class January 2016

On January 10 I greeted my spring 2017 class, teaching 169 students Personal Finance. It’s my eighth year at the University of Nebraska, and I always enjoy the first day of class because I love the positive reaction to what I propose to teach these students about money and life.

Understanding compounding is an extremely valuable concept, and these numbers stun the majority of the class. Here’s part of my story on the first day:

Assume you can save money and earn a long-term return of 10% per year (study the history of the market to see if you think the evidence supports this kind of return*) and leave the money invested for 40 years. The result? At 10% annual return over 40 years, money compounds over 45×!
So, let’s say you’re a college student who works at a part-time job (restaurant server, store clerk, etc.) making modest wages. But you decide to save a little money every time you get paid. Each $1 saved could be worth $45 in the future, even before you are at full retirement age!
Wow! Take it a step further and after learning this lesson about saving and investing, you start saving $5,000 per year when you graduate from college and enter the full-time workforce. Each annual $5,000 could be worth $225,000 in your 40-year future!
Before age 30, a steady saver can have over $2 million in future potential assets started, based on these assumptions.

The Five Financial Foundations is the name of a book that I wrote for college students, young people, and “just getting started” savers and investors. If you need to get started—or know someone who needs to get started—this simple book was written with you in mind.

The “Foundations” were discovered from my multidecade unscientific observation of ordinary, everyday people who were successful in the art of steady accumulation. Though they can hardly be called a secret, it’s clear to me that most people never put these simple financial guidelines to work in their lives.

This little book is full of stories, tips, and illustrations on how to build wealth and a bigger and better future.

The Five Financial Foundations is available in paperback and ebook on this website (ebook also available in the Kindle store).

*Just to be clear, I am not guaranteeing annual investment returns of 10% and realize many savers never earn these kinds of results; however, a study of historical returns supports 10% as a reasonable assumption over 40-year periods.