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Dividend Reinvestment and Compounding Interest

Companies / Investing 2010 Jan 06, 2010 - 10:53 AM GMT

By: Nilus_Mattive

Companies

Best Financial Markets Analysis ArticleWhen we were first planning our trip to India, my wife — and all her family members — insisted that I make an effort to go see the Taj Mahal.


My initial response was something like — “Yeah, I’m sure it’s impressive, but I’d really rather just avoid the tourist spots altogether. I want to see the real India, or whatever’s left of it. You know … farms, markets, places in the middle of nowhere.”

Still, I begrudgingly took a ride to Agra. And I have to say — even though the site was swarmed with the usual camera-toting tourists — the Taj is still pretty darn spectacular. It truly ranks up there as one of the greatest wonders of the world.

Of Course, I Still Find Compounding Interest Just As Impressive!

And I’m not the only one who thinks so. In fact, the phenomenon of compounding interest has long been referred to as the “eighth wonder of the world.” (Many people attribute that label to Albert Einstein, though I have never been able to find adequate documentation.)

The Taj Mahal is an impressive sight.
The Taj Mahal is an impressive sight.

When you step back and think about the power of this simple mathematical effect, you can see why it’s so darn wondrous.

For example, if you put $10,000 into a savings account with a 6 percent annual interest rate, you’ll have $10,600 after one year. Next year, you’ll be earning 6 percent on the $10,600 rather than just the original $10,000.

It might not seem like a big deal at first, but the effects over time can really add up. Ten years later, you’d have almost $18,000.

Perhaps the best part is that the bigger the numbers, the greater the effect becomes.

Likewise, the longer you let it work for you, the faster and faster things accelerate!

This Is Precisely Why I Love Dividend Reinvestment for Longer-Term Portfolios …

Compounding interest is nice enough in a regular savings account.

But what you should realize is that it’s also at work whenever you reinvest your dividend payments into additional shares of stock.

In fact, it can work two or three times as hard for you.

Here’s why:

First, when you reinvest dividends into new shares of stock you’re obviously increasing your overall position. And assuming that the shares rise in value over time, you stand to reap bigger and bigger gains.

DRIPS are an easy way to get your money to grow faster.
DRIPS are an easy way to get your money to grow faster.

Second, by owning more shares you are also setting yourself up for bigger and bigger dividend payments over time, which will continue to build on themselves. That’s a very powerful form of compounding.

Third, if you choose companies that consistently increase their dividend payments … you will benefit from yet another layer of powerful compounding.

This is precisely how some people have managed to build massive wealth from relatively small positions in companies like General Electric, Altria (formerly known as Philip Morris), and other old-line dividend payers.

And in my view, it is precisely how you can do the same.

The best part is that dividend reinvestment plans (DRIPS) now make this easier to do than ever before.

So I encourage you to consider reinvesting whatever dividends you receive right now, unless you absolutely need the income immediately.

Remember, even something as large as the Taj Mahal began with a couple of small stones!

Best wishes,

Nilus

P.S. The Taj Mahal is not the only amazing thing I’ve seen on this trip so far. And I’ll be sharing everything with my Dividend Superstars subscribers as soon as I get back to the U.S. If you want to be among the first to get those insights (and any specific investment recommendations) subscribe to my newsletter today!

This investment news is brought to you by Money and Markets . Money and Markets is a free daily investment newsletter from Martin D. Weiss and Weiss Research analysts offering the latest investing news and financial insights for the stock market, including tips and advice on investing in gold, energy and oil. Dr. Weiss is a leader in the fields of investing, interest rates, financial safety and economic forecasting. To view archives or subscribe, visit http://www.moneyandmarkets.com


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