This comment piece in Emirates 24 7 caught my eye today.
Let us see this power of compounding – simply by saving Dh2,000 per month and investing it at a return of 12 per cent per annum you will achieve a millionaire status in 15 years, with about Dh1,009,152 in the bank. Is 15 years too long to save become a millionaire. The average home loan is for 15 years. So, if we are willing to go in debt for 15 years, why not save for 15 years. It’s all a state of mind. In the aforesaid example, if you break up the Dh1 million, you will realise that the cash outflow from your side has been only Dh360,000 (Dh2000 x 180 months) and the balance Dh649,152 represents the compounded interest over the 15-year period, which is roughly over 1.80 times your investment.
If this sounds too good to be true, that’s because it is. Not only has he plucked an inflated interest rate out of the air*, he also singularly fails to mention inflation and distinguish between nominal and real interest rates. For example, while nominal interest rates may have been around the 12% level in the UK for most of the 1980s, real interest rates have not exceeded 10% in the last 30 years and have generally hovered around or below the 5% level since 1991.** For a financial ‘expert’ to completely disregard this and present such a Panglossian scenario is a pretty poor show really.
* – The UK base rate for example, has not been anywhere near 12% since the early 1990s.
** – Have real interest rates ever exceeded 10% in the UK? Would be interested to find out if anyone has any knowledge of this.