Skip to main content

How does compound growth work?

A happy young lady walking.

As you’re establishing your career, you may not have a lot of money to invest. You may also be facing a large student debt. The one advantage you have is time.

When you save and invest money, it earns a return. And you can make your money grow faster by earning a return on the return — that’s compounding. The earlier you start saving and investing, the greater the effect of compound growth.

The story of three physicians: A hypothetical example

Three physicians started investing at different ages and continued for various time periods. By age 65, the time advantage proved to be significant.

Dr. A from Edmonton

Dr. A grew up in a family of academics, living in a middle-class neighbourhood in Edmonton. When she wanted to attend McGill University in Montreal, her parents agreed to pay for her undergraduate education. However, she knew it was not financially feasible for them to help out with medical school as well. To keep costs low, Dr. A chose the University of Alberta so she could live at home.

Following medical school, Dr. A started residency in Victoria, where she continued to live modestly. At age 25, she started saving regularly and, though her $45,000 salary didn’t go far, she managed to save $300 a month — roughly 10% of her net income.

Dr. A continued her habit of saving over the next 15 years, investing in an equity mutual fund that earned a 6% return. This return was compounded annually.

Dr. B from Toronto

Dr. B’s family immigrated to Canada when he was a young boy. His parents preached a strong savings ethic and lived well below their means. Though they were able to help their son with some of his education costs, Dr. B relied on a combination of student loans and scholarships to get him through his undergraduate studies and medical school.

Because of his family’s money ethic, Dr. B developed an aversion to debt. Starting in residency, he worked hard to pay off his student loans, not wanting to consider investing until this was done. Finally, at age 30, he was able to start saving. Like Dr. A, he set aside $300 a month and continued to save and invest over the next 20 years — also achieving a 6% return, compounded annually.

Dr. C from Halifax

Dr. C always knew he wanted to become a physician. His father, a cardiologist, strongly encouraged a career in medicine. While he found medical school manageable, residency proved arduous. So when he finally finished, Dr. C decided to reward himself for his years of hard work: he bought himself a luxury car shortly after he began his own practice.

Dr. C continued to put lifestyle — a lavish home, a cottage and expensive vacations — ahead of savings, until his 40th birthday, when he realized he had spent almost everything he had earned. Starting small, Dr. C resolved to save $300 a month until he retired at 65.

Look who’s ahead, thanks to compounding

In the end, Dr. A had the largest portfolio of the three — despite the fact that she invested less money than anyone else. That’s because investing from the age of 25 gave her a head start.

 Line graph showing how each physician’s contributions grow until age 65

 

 

Dr. A

Dr. B

Dr. C

Start age

25

30

40

Years of contribution

15

20

25

Total contributions

$54,000

$72,000

$90,000

Market value at age 65

$372,504

$328,314

$204,174

 

Examples are based on monthly savings of $300 and a 6% annual compound return. This graph is presented for illustrative purposes only and is not indicative of any investment. Past performance is no guarantee of future results. The commentary provided is for informational purposes only and is not intended to provide specific financial, investment, tax, legal or accounting advice, nor should it be relied upon in that regard.

As you can see, Dr. C, who started saving at age 40, ended up with $204,174 after saving a total of $90,000 over 25 years. Dr. A saved less and for a shorter time — $54,000 over 15 years — yet finished with a market value of $372,504 at age 65.

That’s the power of compounding.

NEXT STEP: Try it for yourself. See how your savings could grow using our compound growth calculator.

For more information about saving, investing and other financial planning topics, contact an MD Advisor*.

* MD Advisor refers to an MD Management Limited Financial Consultant or Investment Advisor (in Quebec), or an MD Private Investment Counsel Portfolio Manager.

The above information should not be construed as offering specific financial, investment, foreign or domestic taxation, legal, accounting or similar professional advice nor is it intended to replace the advice of independent tax, accounting or legal professionals.

//ARCHIVE - INACTIVE CODE