“The power of compounding reflects the principle that small, consistent improvements yield disproportionately large results over time.” (Morgan Housel)

In his book The Psychology of Money, Morgan Housel makes a great observation about Warren Buffett: more than 97% of Buffett’s wealth was accumulated after his 65th birthday.

This isn’t a point about Buffett’s ability to keep working after retirement age. Rather, it’s a story about the power of compounding.

The vast majority of Buffett’s wealth came not from being a genius in his 20s or 30s, but from staying invested for decades. Over that time, he simply kept growing his investments year after year. And because compounding is like a snowball rolling downhill, it keeps gaining mass and eventually becomes an unstoppable force.

Think of it this way

If you have R100 000, earning growth of 15% will net you an additional R15 000. That’s nice, but not life changing. Yet, if you keep earning that year after year, 30 years later your R100 000 will have increased to R8.7 million. And the same 15% would then earn you R1.3 million the following year. Suddenly, you are generating serious sums of money without lifting a finger.

How this happens

In South Africa, we often focus on the “interest rate” – the percentage we are earning. But the real engine of compounding is time.

Compound interest is simply interest calculated on your initial principal plus all the interest you’ve already earned. In the early years, the growth is sluggish. You might feel like your R500 monthly contribution into a unit trust isn’t doing much. But as the years pass, the interest begins to earn its own interest. Before long, the growth from the interest itself starts to outweigh the money you are putting in.

This is when compound interest becomes a wind at your back. Your money earns more money, like in the example above.

But wait …

However, it’s important to remember that compound interest is mathematically indifferent. It doesn’t care if it’s building your retirement or making money for the bank. When you invest, the snowball rolls for you, but when you carry debt, the snowball rolls over you.

Take credit card debt as an example. Most South African credit cards charge between 18% and 24% interest. If you only pay the “minimum amount” each month, you aren’t even covering the interest that accrued that month. That means that the unpaid interest is added to your balance, and next month, you are charged interest on that interest.

In other words, your debt is compounding. It is taking more and more money out of your pocket.

Focus on time

As the Buffett example shows, the scale of compounding changes as time does its work. You may think that having to pay 20% interest on a R1 000 credit card debt is not that big a deal. It’s just R200. But if you keep allowing that debt to compound and it reaches R5 000, suddenly, you need to pay R1 000 interest. That’s money you are giving away rather than using for something constructive.

Remember that the reverse is also true. The hardest part of investing is taking the first steps – building your wealth from your first pay cheque. It requires discipline and sacrifice. But once you get the snowball rolling, the maths starts to do the heavy lifting for you. That’s why successful investors start early. Don’t wait until you have a “large” sum. Buffett started when he was 11.

Also avoid “leakage”: Every time you withdraw from your pension when changing jobs, you reset your compounding clock to zero.

Just as critically, respect the “reverse”: High-interest debt (store cards, micro-loans) is “compounding in reverse.” Kill it aggressively before you try to build wealth.

What makes compounding really incredible is that it isn’t about being the smartest person in the room; it’s about being the most patient. As Warren Buffett’s life shows us, the biggest rewards come to those who simply refuse to stop the snowball from rolling.

To discuss your financial journey and how to get compounding to work for you, speak to us.

Jason Yutar: +27 83 415 9603 or
Zaheera Mohammed: +27 82 775 1898 

Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact us for specific and detailed advice.

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