The mathematical engine behind value investing - small consistent gains, reinvested over decades, accumulate exponentially. Einstein called it the eighth wonder.
Formula
Future Value = Present Value × (1 + r)^n
What it is
When a return is reinvested rather than spent, the next period's return is calculated on the new (larger) base — gains earn returns of their own. The longer this runs, the more the curve bends upward.
The math, made visceral
$10,000 at 7%/year for 10 years = $19,672
$10,000 at 7%/year for 20 years = $38,697 (almost double the 10-year result)
$10,000 at 7%/year for 30 years = $76,123
$10,000 at 7%/year for 40 years = $149,745
The last decade alone added more dollars than the first three decades combined. That's the geometry of compounding.
Why Buffett refuses to interrupt it
Buffett: "The most important thing is that you don't interrupt the compounding." Selling early — even to "lock in gains" — resets the base. Capital gains tax further reduces the reinvestable base. The discipline of holding through volatility is what separates compounding-aware investors from traders.
What kills compounding
1. Overpaying — high entry P/E means decades of underwhelming returns even on a great business
2. Selling too early — locks in tax + restarts the curve
3. Permanent capital loss — a 50% drawdown requires a 100% gain to recover
4. Inflation > return — a real return below CPI is decompounding