A Most Powerful Force

I was thinking the other day about one of the most powerful forces in nature, compound interest. A quote to that effect is often attributed to Albert Einstein but there seems to be disagreement over that attribution. There is no disagreement about the power of compound interest. The basic concept is that the sooner you begin saving/investing money on a routine basis, the more money you will accumulate over time.
As an example, Sophie and Barney begin to save $3,000 per year, ($250 per month) but Sophie begins saving 7 years before Barney. The example is based on 8% compound interest. It could be 5% or it could be 10% – the principle remains the same – when you begin to save matters. Note how things worked out a bit better (+$393,318) for Sophie.

Age Sophie Barney Age Sophie Barney

21           $   3,000                                              28       $  31,910           $   3,000
22           $   6,240                                              29       $  37,463          $   6,240
23           $   9,839                                              30       $  43,460          $   9,739
24           $13,518                                               40       $137,286         $64,486
25           $17,600                                              50       $339,850        $182,680
26           $22,008                                              60       $777,170       $437,852
27           $26,768

I had a similar thought about home ownership. Part of the deal with buying a home now is that you buy low, lock in low financing terms, and build equity. Someone buying a home in 2013, with a mortgage of $200,000 at 3.25%, will have a principal and interest payment of $870 per month.

By year 7, the balance owed on the mortgage will be $169,038. For discussion sake, let’s say home appreciation returns to one-half the historical norm. At the end of year 7, with equity and appreciation, that home buyer may have $65,962 they would not have had had they delayed a home purchase. When you buy a home does matter.

The above are thoughts of a Journalism major who ended up in the field of real estate. Should you buy a home? Should you buy a home in 2013?

Burton Malkiel, author of A Random Walk Down Wall Street had this to say in the Wall Street Journal:

“The U.S. housing bust has made the single family home an extremely attractive investment. (While I would question the word “investment”, I agree with his point). Housing affordability has never been better.”

The Milwaukee Journal quoted Morris A. Davis, a real estate expert with UW Madison:

“But my own view on this is there’s not much downside risk to house prices. I’m not a financial planner or anything like that, but I’ve been encouraging people to buy homes. Most metrics I look at suggest that housing is fairly valued right now or even is undervalued.”

I remain available for coffee and a chat for those who have real estate (or basketball related) questions.