Quiz: How Impactful is Compounding in Your Portfolio?
In early April we visited Middleburg Virginia to attend the 30th anniversary celebration of a manager with whom we have a long-term relationship.
The manager’s strategy emphasizes the power of compounding through the companies it targets and its long-term hold period of core positions. As a means of reinforcing this concept to the attendees, the fund posed the following question—originally asked to their investors in its 3Q 1995 investor letter:
Which would you choose: $1,000,000 today or a penny today that doubles in value every day for 30 days?
Answer: take the penny.
We believe there are two takeaways from the above.
1) The power of compounding as shown by a penny becoming bigger than $1 million after doubling every day for 30 days.
2) The need for patience: In order for compounding to work it takes patience. Note that the penny doesn’t get bigger than the initial $1 million until day 28—that means for 27 days you’d have your patience tested.
With markets already retracing their steep losses in 4Q18, and against all the market noise and chatter that occurs on a daily basis, we find the above exercise a smart and simple reminder of the power of compounding and the importance of patience for compounding to work.