Qualified Financial Adviser (QFA) Loans Exam 1 Practice Test

Which statement about the Rule of 72 is correct?

It is an exact formula for doubling money at a given rate. It estimates the number of years to double by dividing 72 by the rate. It applies only to inflation. It uses continuous compounding to double.

Correct Answer:

It estimates the number of years to double by dividing 72 by the rate.

Explanation:

The Rule of 72 is a quick estimation for how long it takes an investment to double given a steady annual return. The idea is that the approximate number of years to double is found by dividing 72 by the rate (in percent). This works because the exact doubling condition is (1 + r)^t = 2, which leads to t = log(2)/log(1 + r). For small rates, log(1 + r) ≈ r, so t ≈ 0.693/r. Since r is a percent, this becomes about 69.3 divided by the rate, and 72 is used because it gives convenient mental math and reasonable accuracy across common rates. It’s an approximation and assumes discrete annual compounding, not continuous compounding, and it applies to any steady rate, not just inflation. So dividing 72 by the rate is the best description of the rule.

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