Compound interest is when the interest earned on an investment earns interest on itself.
CFP Sophia Bera explains it:
"If you had $1,000 in cash and just hid it in a drawer, it would still be $1,000 — and thanks to inflation, over time that $1,000 would be worth less. But if you invested it and earned an average return of 7% , in one year you'd be sitting on $1,070. In the next year, you'd earn 7% not just on the original $1,000, but on that $70 in interest, too — which means at the end of year two you'd have $1,145."
That's the mathematical explanation. The non-math explanation, and why you should care, is: Compound interest is the reason it's so important to open retirement savings accounts as early as possible. Because of it, a little money contributed today will ultimately earn more than a lot of money contributed tomorrow.
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