In the previous post, I started a discussion on how to transition from being a spender to a saver and how to transition from being a saver into an investor. Well, it turns out that active investing does not suit everybody, there are some people that will prefer to save up their money in the bank, and they will be perfectly content with whatever they could amass by the end of the saving period.
Some people do not just have the time to study investments and conduct due diligence to find the best risk-reward opportunities. Others have an aversion to risk and they’d rather keep their money than risk throwing it down the drain. Hence, they’ll rather have their money in the bank than invest it.
I have started this thread to help savers “invest” passively by using the power of compound interest to increase their account balances by saving their money in fixed term deposit accounts.
What is a Term Deposit Account?
A term deposit is money held in a bank that has a Fixed term for when it can be withdrawn and on which the bank pays you an interest at a Fixed rate. You should note that a fixed term deposit typically has a maturity of at least 30 days and you could deposit the money for as much as 50 years with some banks.
Banks typically pay different interest rates on term deposits depending on how much you want to deposit and for how long you intend to keep the money in the deposit. For instance, Standard Chartered Bank Nigeria has a 7.9% rate for fixed term deposit, which is the highest and “most straightforward” rate I have seen from Nigerian banks.
The major advantage of term deposits is that you can be certain that you’ll get your initial investment because its NDIC insured and you’ll get your interest inasmuch as the bank is not insolvent. However, should you choose to withdraw your funds before the end of the deposit term, you’ll need to notify the bank in advance and you’ll forfeit any earned interest.
What is Compound Interest?
Compound interest is interest earned on an investment combined with the interest earned on the interest of an investment. Hence, your interest on an investment is added to the initial capital, which increases your capital and in turn increases your interest in a continuous cycle for as long as you remain invested.
Compound Interest in Action on a Term Deposit Account
Applying the power of compound interest to term deposit accounts is one of the ways by which you can safely make profit even when you are saving up money without investing actively. The image below shows the compound interest calculation (in dollars) for a 200,000 initial capital term deposit, with additional 10,000 monthly deposits and a 7.9% rate for a period of 10 years.
From the image above, if you put N200,000 in a term deposit today, and you consistently add N10,000 per month to the term deposit. 10 years down the road, you have your initial N200,000 investment, you’ll have saved up an additional N1,200,000 and you’ll technically an interest of N757,958.
The actual real life calculation might differ and I’m not sure banks will allow you to add monthly additions to a term deposit or pay you a compound interest. However, you can manually set up the process and achieve a closer result by re-depositing your initial capital, interest earned, and the monthly savings at the end of each deposit term to start another deposit term.