This quirk of maths can turbocharge your investment returns
Kyle Caldwell reveals the one thing that all investors can do that shouldn’t be underestimated.
15th April 2026 11:55
by Kyle Caldwell from interactive investor
Whether you prefer to invest in active funds, shares or simply passively “buy the market”, there’s one thing that you shouldn’t underestimate: the power of compound interest, achieved through investing for the long term.
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Albert Einstein allegedly described compounding as “the greatest force in the universe” and apparently mused that “he who earns it, understands it; he who doesn’t, pays it”.
While the debate will no doubt rumble on regarding the authenticity of the quotes, as far as investors are concerned, the power of compound interest is not up for debate.
In a nutshell, compound interest refers to the way investment returns themselves generate gains. For instance, if you invest £1,000 into a fund returning 5% over one year, you'll earn £50. Assuming you don't withdraw any money, the next year you'll earn 5% on £1,050, which is £52.50. This doesn’t sound like much of an uplift, but as each year passes, the compounding effect multiplies.
The effect becomes even more powerful when compounding takes place alongside the reinvestment of dividends. Over the long term, dividend growth is where most of the stock market’s returns come from.
One key takeaway for beginner investors looking to improve their odds of stock market success is to invest for the long term and reinvest both capital gains and income. Those who do will reap the rewards of compounding.
Another lesson is to invest as early as possible. Our own research hammers this point home. Someone investing £250 per month into an investment returning 5% a year would experience an investment gain of £83 on £3,000 total contributions. This investment growth accounts for just under 3% in year one, rising to over 5% in year two and almost 14% by year five.
By year 10, investment growth would make up 30% of the portfolio, and 72% by year 20. The investment tipping point happens at year 26, when investment growth accounts for 105%, turning £78,000 worth of monthly contributions over the period into £160,229.
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Investment trusts have an income edge over funds
Investment trusts are a particularly attractive vehicle for anyone seeking a reliable and rising income. This is owing to their ability to hold back up to 15% of the income they receive each year in a revenue reserve. This gives them an advantage in delivering income to investors during lean periods.
This structure proved its worth during the global financial crisis and the Covid-19 pandemic. Boards dipped into their reserves to top up income shortfalls from underlying investments so that they could maintain their long track records of raising the dividend year in, year out.
We recently wrote about the 20 investment trusts that have raised their dividends for over 20 years, as well as producing an article about those that have upped their dividends for 10 or more consecutive years, but fewer than 20. This latter group of trusts are referred to as the ‘next generation’ of dividend heroes.
The trio with the longest dividend track records - 59 years of consecutive increases - are: City of London (LSE:CTY), Bankers (LSE:BNKR) and Alliance Witan (LSE:ALW).
Fund share classes – what to weigh up
For investors in funds, it is important to pick the right share class version of your chosen fund.
The main thing you need to decide is whether to pick the accumulation (acc) or the income (inc) share class.
For those who have chosen to buy a growth-focused fund, the accumulation option may be the only choice available.
Income investors, however, have a choice and need to be careful. The accumulation share class reinvests the income generated by a manager back into the fund, while the income share class pays income to the investor in cash.
For long-term investors looking to benefit from the wonder of compound interest, it is more profitable to pick the accumulation option.
Some investors may prefer to manually reinvest the income generated, perhaps into another fund, but there’s a risk that less-engaged investors will unwittingly build up their cash balances.
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
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