The Manhattan Island deal offers a historic lesson in compound interest

Between 108th and 109th Street in East Harlem is Peter Minuit’s playground. Every day after school, the children of the nearby primary school come through the doors expending what little energy they have left. They play on the swings, chase each other around the yard and go down the slide happily. None of the kids even think of the historical figure whose playground is named after.

Inuit was a stout man with coarse manners. He flirted with preaching and cutting diamonds before being promoted to director of the Dutch West India Company.

In 1625 he arrived in New Netherlands, a Dutch colony that stretched from modern Delaware to Connecticut. But it would be a year later that his place in history would be cemented — as the man who bought the island of Manhattan from Native Americans for $24. Initially, it appears he paid buttons for the island, which is somewhat ironic given that the currency used was glass beads and trinkets.

In New York today, you’d be hard-pressed to buy a decent pizza and beer for $24.

In 2014, economists at Rutgers University wrote a paper estimating Manhattan’s land value at $1.4 billion. If Minuit were reading the newspaper, he’d be smugly laughing – but deciding who came out the best in this case is less obvious than it might seem at first glance.

Suppose Native Americans had a good financial planner. Knowing that this money was surplus to daily expenses, they took that $24 and invested it.

The type of investment is not important. For simplicity, let’s say that this investment returned 7pc each year thereafter. Now let’s see exactly why Einstein called compound interest the “eighth wonder of the world”. Compound interest basically means that the 7pc gain you make each year is added to the principal, making the new 7pc the following year a little bigger. Many investments behave this way. Although it may seem obvious, once you add the magic ingredient of time, you can see how wonderful compound interest is.

Ten years later, that same $24 earning 7% per year will have doubled to $48. After 20 years, the initial investment quadrupled to $96. A century later (1726) and the investment would be multiplied by more than 1000 to reach approximately $24,000.

Today, that $24 investment would be worth a staggering $8 billion. To put that into perspective, the total wealth of the United States is estimated at $100 billion.

In the end, Minuit and his friends have assets worth $1.4 billion and the Native Americans with their financial planner have assets worth $8 billion. Maybe not such a bad deal after all.

This example is extreme and no investor is nearly 400 years old, but there is a lot to learn. The first lesson is that successful long-term investing is a matter of compound interest and time. Don’t let anything get in the way of these vital components. The second lesson is that when you have savings or capital, get help. There are many high quality financial planners out there who can help you find a solution that works.

Midnight was on his way back to Europe in 1638 when he decided to detour to St Kitts for tobacco. A hurricane hit the boat he was on and he died at sea.

There is a third lesson somewhere for all of us to understand but, for now, let’s reflect on its unintended contribution to understanding compound interest.

Will Sparks is chief investment officer at Quilter Cheviot;

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