Suppose you are a newborn baby girl (congrats!), and your parents wanted to set aside some money when you were born. They wanted to make sure you had $192,000 when you turned 60. How much would they need to set aside?
The Rule of 72
The Rule of 72 is a handy rule that tells you how long it will take for your money to double, if you were able to earn a consistent return on your investment every year. To use the rule, take 72, divide it by the return you get, and that tells you how long it takes to double your money.
| Rule of 72 | Interest Rate (%) | Number of Years to Double |
|---|---|---|
| 72 divided by | 2 | 36 |
| 72 divided by | 4 | 18 |
| 72 divided by | 8 | 9 |
| 72 divided by | 12 | 6 |
| 72 divided by | 24 | 3 |
You can see why banks love paying low interest rates on your savings, and asking for high interest rates on credit cards. It’s one reason why financial companies have the tallest buildings in every downtown city. They understand how compound interest works. The same is not true for the average person.
Baby bonds
The Atlantic describes baby bonds eloquently.
“Baby bonds are simple. The government would create investment accounts for infants, giving babies born to poor families large seed grants and babies born to rich families small ones. The money would grow, and kids would gain access to it when they reached adulthood, to use for school, a down payment, or a start-up.”
— Annie Lowrey, writing in The Atlantic
The idea of Baby Bonds speaks to the heart of ESG investing. It would do a lot to put all families on a more level wealth playing field, closing the existing racial wealth gap. Imagine if Baby Bonds were given to every infant and invested in ESG companies and technologies? We would be giving every child access to wealth; cleaner, dynamic jobs when they grow up; and a chance to have seed capital to start their own business. We don’t have to rely upon the government to set up Baby Bonds. If you are able, you can set one up yourself and invest in ESG companies. This is just one variant of the Baby Bond. Many others exist.
How much would you need to set up a Baby Bond?
How much you would need would depend on how you are able to earn over time. Let’s suppose our parents earn 6% a year, in line with the US stock market over the last 20 years. How much would they need to set aside today, to fund her future retirement? From the Rule of 72, we know the money will double every 12 years. We can use that to walk our way back to the present. We can easily do the same to see how much our parents might need to set aside for her college education.
| Ending Age | Ending Amount | Starting Age | Starting Amount |
|---|---|---|---|
| Age 60 | $192,000 | Age 48 | $96,000 |
| Age 48 | $96,000 | Age 36 | $48,000 |
| Age 36 | $48,000 | Age 24 | $24,000 |
| Age 24 | $24,000 | Age 12 | $12,000 |
| Age 12 | $12,000 | Age 0 | $6,000 |
Only $6,000 set aside in the first year, one time, or $500 a month, gives our young baby a good chance at having $192,000 by the time she reaches 60. This won’t give her a comfortable retirement, not by any means, but even with that amount, she will have more than many contemplating retirement today. I won’t sugarcoat it, $500 / month over one year is a lot for most families. If they were able to save $1,000 a year for her first 12 years, they would still be on track. This works out to $83 / month, which should be in the range of most people.
It doesn’t take into account the decreased value due to inflation. One dollar today will not have the same purchasing power after 60 years. However, you are using time and consistency to your advantage, allowing time to grow your nest egg, and allowing you to contribute less. You can easily scale the above table for ending with more money, or if you earn a higher rate of return. One last example to show you the power of compound interest. In this example, our parents are able to earn 8% consistently over the next 60 years, doubling their money every 9 years. My next article will show you a way to earn higher returns, with less risk.
| Ending Age | Ending Amount | Starting Age | Starting Amount |
|---|---|---|---|
| Age 63 | $768,000 | Age 54 | $384,000 |
| Age 54 | $384,000 | Age 45 | $192,000 |
| Age 45 | $192,000 | Age 36 | $96,000 |
| Age 36 | $96,000 | Age 27 | $48,000 |
| Age 27 | $48,000 | Age 18 | $24,000 |
| Age 18 | $24,000 | Age 9 | $12,000 |
| Age 9 | $12,000 | Age 0 | $6,000 |
Using the same example as above, we start with $6,000. Because we earn 8% a year, we are able to sneak in an extra double to our money. This transforms our $6,000 into a total of $384,000! Not only that, we are able to have double the amount as before, six years earlier! If we were able to earn 8% for another 9 years our total at 63 is $768,000. Not too shabby for $6,000 set aside for our baby girl, one time. That’s the difference between earning 6% a year and 8% a year consistently.
Our goal here at smilingdad is to educate you on money and give you hope about the future. In these times, hope is necessary for the future, as it is in short supply. Our goal is not only educating you on money, which there are many great sites, but to show you how to live and invest sustainably to leave a better future for yourself, our children, our grandchildren, and the world at large. We call it ethical capitalism.
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Warmest regards,
smilingdad
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