People keep going around saying compounded interest is very powerful, we studied compounded interest in secondary school and probably in tertiary educations (JC, Poly, ITE, Uni, etc...) How useful is compound interest to us average Singaporeans?
This post will not teach you how to be super rich or invest, none of the posts in my blogs actually teaches you to work 30 secs a day to be a millionaire, but I want to offer a guide on one of the many ways which I have learnt and/or discovered.
Firstly, a disclaimer that this is not a promotional on the CPF scheme, like it or not, it is here and now. I would prefer to use it to my advantage and with minimal effort/calculation if possible.
My goal/target for my (and my wife's) CPF account is to reach the current CPF minimum sum. Upon reaching that goal, I would not have to worry about it ever since.
Compound Interest
Compound interest is quite simple to understand, the interest earned adds to the principal sum and becomes the new principal sum for next round of interest calculation.
So assuming a younger you have $100 in your piggy bank and your parents will keep giving you 3% interest at the end of every year of the money in the piggy bank as at 31st December every year.
If you do not take out the money or interest earned, your piggy bank's value will be like this:
Year: Amount
2015: $100.00
2016: $103.00
2017: $106.09
2018: $109.27
2019: $112.55
2020: $115.93
This is the rough concept, in schools, we did not use big numbers or higher rates or longer periods to calculate, but the increase in interest is increasing exponentially. At this rate, this $100 will double itself in about 24 years.
Compound Interest: CPF
Again, not a promotion, this is just what it is based on cold figures.
As at 23 june 2015, the base interest rate in the CPF Special Account (SA) is 4.00%. Time to time, it is adjusted to 5.00% once every 5 years and also if it falls below a certain amount. But we will use 4.00% for calculation.
Imagine at 25 years old, you start working, making $3000 every month for the next 30 years (impossible as it will bound to increase, don't get fired or quit). Month after month, for 30 years. you contribute $180 to your special account. This is based on CPF current allocation rate of 6% of salary into SA. At the end of 30 years, your SA will reflect a whooping $121,143.27.
But wait, if you just put that same amount of money in a biscuit tin for 30 years, you will only save abit less than $65,000.00, just about half the amount of money.
This money will increase drastically under following circumstances:
1) increased monthly salary, if you do not even work hard to be better rewarded at your job, then my entire blog is rendered moot.
2) increased interest rates for CPF SA.
There are many other things, but this is the gist of the whole matter.
Time
When it comes to compounded interest, time is man's best friend. By year 20, the amount in your SA will only be $64,320.65 which means to say, in 10 years time, the sum will gain about $58,000!!!
Principal sum matters of course, but for compound interest, time is indeed the best friend.
My Goals
As I've mentioned before, my goal is to reach the minimum sum at anyone point in time. Meaning the moment my OA + SA > prevailing minimum sum, my goal is achieved. And you will never have to worry about it unless the scheme changes.
This is the historical rate of CPF minimum sum increases/adjusts for about 3-4% year after year. The moment I hit the minimum sum, I'll take that money and dump it inside the special account. Every year, the interest given will then increase your money accordingly to meet the newly adjusted minimum sum, hopefully. Not to mention the interest rate is risk-free. It may not be a lot, but it is exactly like playing Russian Roulette without any bullets loaded.
