How the Rule of 72 is Killing You

Most people in North America work hard, not hard like a chinese farmer carrying their own weight in rice all day, or hard like mining for diamonds with a pickaxe, at the unpleasant end of a gun, for 22 hours a day, but hard. Considering how few people really get ahead financially, you might say too hard.

Some people come to North America seeking a better life for their kids, they are willing to do whatever it takes to get their children properly educated, hopefully to get top tier employment which provides surplus income, and give them a bright future. Secretly, they expect the children will provide for the parent’s retirement. So their gift is really just a loan.

But is that it? Are people just working too hard, for too little money?

Consider that every dollar in your pocket right now, is worth more than that same dollar next year, unless you send that dollar off to work, and demand that dollar make babies. Imagine the great, great, great, grandchildren of your money could take care of you when you get older, instead of relying on your actual babies.

All this talk about wealth and economies might have you yawning, but then you don’t need to pay off your mortgage, nor did anyone demand you retire while you’re still able to work, feel free to slave away forever. As if to encourage your continued slavery, they’ve raised the retirement age in a slew of countries in the past few years, with the notable exception of France. Those crazy socialists just reduced the retirement age by 2 years, to 60.

You may have heard about the social security in America going broke, and you will have heard a lie. The Republicans have been shoving this myth down the public’s throat for years, and the media doesn’t seem to want to question it. But whatever the facts, those Napoleons are desperate to excoriate it even further, just to make sure they have an endless supply of labour. Self-fulfilling prophecy anyone?

If you insist on believing that growing wealth is a selfish act, enjoy your martyrdom.

If you’re still reading, it’s time to do some research. It might just save your life. Information is power, we all know this, it gives you the power to decide your fate. Without the proper information, you are at the mercy of the financial institutions, which you trust with your savings, and they love it.

If you haven’t heard of the rule of 72, it’s time to get acquainted with it, exchange fluids, and elope with it to some sunny tropical island. This is a serious relationship discussion. Either you’ll live happily ever after, or you’ll get taken to the cleaners, it’s really up to you.

Firstly, the purpose of this rule was to reasonably approximate what will happen to your money, but it also works on inflation, specifically the rise in the cost of goods as the value of the currency falls. That’s right, the currency becoming devalued is the primary reason that goods go up in cost. Exploiting poorer countries can slow this effect, but it catches up to every country with a fiat currency.

Fiat money is currency which derives its value from government regulation or law. It differs from commodity money, which is based on a good, often a precious metal such as gold or silver, which has uses other than as a medium of exchange.

So you’re on a sinking ship, and you need to bail faster and faster, if you want to keep her afloat. Your savings vehicle is your bailing bucket, the bigger it gets, the more in control of sinking you will be. If you manage to grow enough wealth over time, you might even realize you have your own raft, and won’t mind watching the ship flounder.

There’s a reason the super-rich are unfazed by recessions, it’s like black friday to them.

The generally accepted rate of healthy inflation varies between 3-6%, during recessions however, this can radically shift into the teens, while earning power drops. Most of the earnings will be cut from the middle income brackets, like middle managers, or extraneous executive positions. The ones who are living with government subsidies really can’t dip below a kind of minimum, nor are the truly wealthy so invested in one economy for their earnings, that they can’t mitigate losses, or diversify income. If that’s you in the middle, you need to take this seriously.

If we assume inflation is 4%, the rule of 72 dictates that a similar car to the one you purchased the year your child was born, will cost double by the time they are 18 years old. This year it may be $28,499 for your dream minivan, 20 years from now you’d be looking at $61,649. Which should illustrate nicely, exactly why you can’t think of savings linearly.

Whatever money you “earn” from your savings or investments, will be offset in the opposite direction by inflation. Thankfully, the rule of 72 can handle that as well. We can calculate a real return, from our investment growth, with inflation factored in, just by subtracting. If you subtract 4% from the rate of return your savings is achieving, and it comes out to a negative number, that means you’re putting in more than you get to pull out later.

That 4.8% the bank offered you on a 5 year term deposit, doesn’t look so great anymore, does it?

Then the financial institutions have another ace up their sleeves, besides the stock market, which let’s face it, people are afraid of, the average person doesn’t know where to buy good investments. It’s like going to the only drug store in town, to buy painkillers that don’t work, rather than going to a doctor for a prescription only painkiller that does.

Your financial institution is probably that drug store. An actual investment advisor is like the doctor. You might be perfectly happy buying cheap sandwiches from a self-serve gas station, but you probably want a specialist doing your quadruple bypass surgery, for eating too many cheap sandwiches. It’s not even a question of trust, it’s a question of capability.

Since the average person has no idea what it takes to be financially free, they don’t realistically know what’s required of them to reach that goal. The friendly representative at your local bank will likely ignore the end result altogether, and will focus on how much money you can afford to transfer from your regular account instead. The fallacy here is compounded, because you don’t know what your finish line is, you can’t devise a good plan to get there, no matter how nice their smile is.

If you want to reach your goal, that goal needs to be crystal clear, only then will do what it takes.

Therefore, armed with the rule of 72, and a pen, you should be able to scribble an outline, starting with a goal. From that goal, you work backwards. The hardest challenge in the whole process might be finding a good advisor to save you from the wolves in bankers clothing.

To further illustrate how complete the deception is, find “rule of 72” with your favourite search engine, and pay attention to which sites discuss it. You’ll find that Primerica Financial Services, and their unscrupulous doppleganger, World Financial Group, are the only two major investment brokers that even care to educate you about this. Let that sink in for a minute, while you continue to check out all the other links.

Notice how all the educational sites, and celebrity personal finance gurus, will happily teach you about the rule. Just not the major institutions that the vast majority of people trust with their savings. If the banks were your friends, my advice would be to make new friends.

Telling yourself it’s not that bad is really not an option, not even for a masochist.

So what does the average family need to retire comfortably, 30 years from now, assuming inflation doesn’t go crazy? Probably well over $1 million, and I bet that seems like a really big number to you, but it’s not. A couple could reach that properly investing $300 per month. With more time, such as starting 5 or 10 years sooner, the monthly investment could be significantly reduced. Whatever your specific goal is, there’s a gameplan that’s right for you, don’t let anyone convince you to just save money without a plan.

Of course, there’s one catch, the assumed rate of return in the above example is 12% average over 30 years. When was the last time you saw any financial institution boast anything of the sort? That’s right, you didn’t. And if you don’t know it exists, how can you ask for it?

Because they aren’t interested in peddling proper investments like mutual funds, which require licensed agents, which require higher pay, at lower margins, they instead offer you a selection of term deposits, at rates barely beating inflation. Which all boils down to one thing, you remaining ignorant, and therefore, poor.

If you get less growth from your investment, you’ll simply have to contribute more, to get the same result, not something the average family can afford to do. Time horizon, deposit amount, and the rate of return, are all factors. If you can’t change one, you’ll have to change another. Starting early may be your best weapon, adding more will help, but without increasing returns, it’s an uphill battle, in the snow, naked.

The industry of handling your money obviously makes it hard to get ahead of the inflation curve, but people don’t seem to realize how serious it is. Most will bang the drums about taxes, even when those taxes will cost them as little as $12 a year extra. Yet those same people refuse to educate themselves in personal finance, and by doing so, give up thousands of times more. Thousands.