Why do we forget the easy stuff? Oh yeah, because it's easy. If it were hard, we might be more apt to remember it. But then, of course, it wouldn't be called the easy stuff anymore. My head hurts. But I digress.
With all the online financial calculators available out there -- not to mention the palm-sized computers stuffed in our pockets -- we find ourselves having to do very little math these days. I won't try to cover in this article whether or not that's a good thing (and I heard you cheering, anyway). I will, however, say that I believe we grow complacent when the financial information that can partly determine the quality of our lives is simply handed to us on a silver platter.
It's just too easy to forget the financial magnitude of what we're trying to accomplish for our families and ourselves when we get a nice, neat number handed to us with the click of a mouse. It can create a situation where we focus more on the end result than on our overall goals and the steps we must take to achieve them. We just plug in a few numbers and we see that we'll save $24 per month on our mortgage payment if we refinance, so we do. Or perhaps that handy yield-to-call calculator says this bond meets our yield requirement, so we buy it.
Folks may or may not be making the right decisions here, but my point is this: If you're spending more time trying to get to that magic little yes or no from such tools and less time thinking about the big picture, it will cost you.
Have you spent as much time thinking realistically about how long you expect to live in your home as you have the details of refinancing your mortgage for the third time? Yield-to-call is a great tool, but have you really determined whether or not you should be buying bonds in the first place?
This is where we need to take a step back and look at the big picture. We need to appreciate the immensity of the financial decisions that we're making and see their true impact on our future. We need to think them through, and a little bit of math can help us do that.
OK, OK, don't panic. First off, the couple of rules that I'm going to talk about here actually require very little math, and what math is required is fairly simple. But, despite their simplicity, these rules get us thinking about the big picture first and then allow us to move on to making some specific decisions that will help us reach those goals.
Without further ado, here are two rules we should already know and should never forget again:
The rule of 72 -- double your money, double your fun
This is my favorite rule of finance because it forces you to look at what you have -- right now, today -- and then focus on what you can reasonably achieve given your return expectations.
The Rule of 72 will tell you how long it takes for an investment to double in value, assuming interest is paid annually and reinvested in the same account. To get your result, simply divide the number 72 by the interest rate you expect to earn on your investment.
For example, if you put your money in an investment earning 8%, dividing 72 by eight will tell you that your money will double in nine years. Consequently, if you earn 9% on your money, it will take eight years to double, and 10% will get you there in 7.2 years. If you're expecting a more modest 6%, 12 years will pass before you see double dough.
This rule itself is not a prediction, but a simple mathematic fact. Of course, the predicting part comes in when you assume what you'll earn on your investment. (If it's Treasury securities, you probably know, but if it's stocks, you're making an educated guess).
For that reason, you had better err on the side of caution. Though stocks -- as measured by the S&P 500 -- have returned just north of 10% since 1926, there have been 10-year periods where returns were substantially lower or virtually nonexistent. So, be conservative but realistic, depending on your time horizon.
The great power of this rule may be that it has a tendency to get folks excited about investing -- especially teenagers who have such long periods of time in which their money can grow. Given that, you'll be doing them a real favor if you teach it to your children and grandchildren.
If that's still not powerful enough to make them lenders instead of borrowers, teach them the oft-forgotten flip side of this rule, as it will also tell them how long it will take for their debts to double in size at a given interest rate. With consumer debt at an all-time high, this side of the coin may prove the better lesson for your college-aged kindred.
For example, if you have $10,000 in debt and you're paying 7% interest on that balance, you'll owe $20,000 in just over 10 years. Of course, this assumes that no payments are required, but many student loans work this way (i.e., the interest simply accrues and is capitalized, so the debt builds until you begin making payments).
Even if we're talking about credit card debt -- where you're required to make minimum monthly payments -- the rule still suggests how quickly debts can become burdensome. Indeed, today's minimum payment requirements often have little more impact than zero payments, though, the balance is at least going in the right direction in this case.
In any event, this rule can teach a powerful lesson about how quickly one can grow their bank balance, or their debt balance, as they choose.
The rule of asset allocation
Folks in the financial realm are often pressed to come up with simple tools to help investors weigh their financial decisions. Many are simplistic, and therefore, often worthless.
Now, this next forgotten rule is about as simple as they come, but despite that, it's actually uncanny how often this rule finds the mark for investors. At the highest level, it can be used to determine how much of your money should be invested in stocks, and how much should be invested in bonds.
The rule says that you need only consider your age as a percentage, and then use that percentage to loosely represent your bond allocation. For example, a 40-year-old investor using this rule would have about 40% of their portfolio invested in bonds (i.e., 40/100). The remaining 60% would be allocated to stocks.
As far as the rule is concerned, it's as simple as that. However, here I would offer a little more guidance, and toss in a requirement of my own. This rule has been around for quite some time, and a few things have changed since it was put forward. For one thing, we're living longer, and that means we need to invest aggressively enough to outpace inflation and keep our earnings intact.
After all, what good is it to walk down the aisle at Wal-Mart
The Foolish bottom line
These rules aren't the be-all and end-all, and they're certainly not precision financial management miracles. However, they will get you thinking more holistically about your financial future. And, in a game with stakes this high, you'll want to stay involved.
Again, these rules are that much more powerful to younger minds, so don't forget the kids and grandkids. The perfect age at which to teach these little pearls of wisdom will vary (i.e., you probably won't get more than a glazed stare if you have to snatch them away from an episode of SpongeBob SquarePants). However, rest assured that they're never too old to learn them.
When he's not trying to figure out how much wood a woodchuck chucks, Mathew Emmert is recommending quality income-producing investments in the Fool's investment newsletter, Motley Fool Income Investor . Take a free trial with no strings attached. The Fool has an investor-friendly disclosure policy .