You’ve probably heard that before, financial independence, also known as financial freedom, is the capacity to generate enough income to be completely independent of external income sources, such as a job, for instance. If you have not previously heard about this concept , I urge you to immediately purchase, and read Robert Kiyosaki’s Rich Dad Poor Dad (Affiliate link at the end of the article if you’d like to support me). Financial independence represents the ability to stop working for others in order to solely focus on one’s own future.
But… How do I achieve financial independence?
There are numerous ways to achieve financial freedom, all of them involve investing your money in order to, in Kiyosaki’s words, make your money work for you. I assure you, no matter the investment, in some form or another, you WILL utilize compound interest in order to scale up your income. Let’s elaborate on that, what is compound interest, and why is it so important?
Compound interest is the effect created by compounding the interest earned on an investment, in other words, by reinvesting the money earned by an investment in order to have that money create more money, and so on. Interest is defined as: “money paid regularly at a particular rate for the use of money lent, or for delaying the repayment of a debt.” (Dictionary.com) And compound interest is defined as: “interest calculated on the initial principal and also on the accumulated interest of previous periods of a deposit or loan.”(Investopedia).
Although it has a relatively specific definition, the principles behind compound interest actually apply in many different investments, there doesn’t need to be actual interest paid to have a compounding effect. Let’s take a look at an example, if you decide to purchase 100 shares of XYZ company at $10 per share (total value of $1,000), and a dividend yield of 10%, you would earn $100 by the end of the year in dividends (dividends, by the way, are essentially payouts by a company to reward it’s shareholders). If you reinvested those earned $10 into more XYZ company stock, and say the stock price didn’t move (very unlikely), you would end up with an extra ten shares, purchased with the earned $100. Now, at the end of the second year, you wouldn’t only earn $100, you would earn $110, allowing you to purchase another 11 shares. At the end of the tenth year, starting with an initial investment of $1,000, reinvesting the earned dividends would net you a total value of $2,593.74. Your money more than doubled, if you did not utilize compounding, your total value would only be $2,000. Of course, this situation is incredibly oversimplified, as it served only to demonstrate the power of compound interest.
Compound interest must be utilized in order to achieve financial freedom, whether you reinvest dividends to earn more, or reinvest your business’s profit to make more income. Compound interest is one of the most important topics that needs to be fully understood in order to become financially free, I urge you to read more on the topic to achieve a greater understanding of it’s potential.
If you’re interested in starting your journey to financial independence and success, I highly recommend picking up Rich Dad Poor Dad, here’s an affiliate link to purchase it on Amazon, you would be supporting me too!
Rich Dad Poor Dad: What the Rich Teach Their Kids About Money That the Poor and Middle Class Do Not!