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Personal FinanceExplainerPast Article

Compounding Is Not a Timing Strategy

The arithmetic of reinvested growth does not require a view on next quarter. It does require time.

By Claire Ng, Retirement Columnist

New York1 min read

The United States Capitol building with its white dome against a blue sky
The United States Capitol building with its white dome against a blue skyPhoto by Louis Velazquez on Unsplash

Compounding is reinvestment. A return, left in the account, becomes part of the base that earns the next return. The second year's gain is calculated on a larger pile than the first year's, if there was a gain.

One hundred dollars that grows by 5 percent a year, with the gain left in place, is not 100 plus ten dollars after two years. It is 100 times 1.05 times 1.05, which is 110.25. The extra quarter is the compound. Change the rate or the years and the pile changes. The shape of the sum does not.

Timing is a different activity. It is a claim that you can be present for the good periods and absent for the bad ones. Compounding does not need that claim. It needs the contributions to stay invested through periods that look, at the time, like mistakes.

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