The Power of Compounding Returns
The best way to ensure your future financial success is to start saving today.
The amount of capital you start with is not nearly as important as getting started early “Procrastination is the natural assassin of opportunity. Every year you put off investing makes your ultimate retirement goals more difficult to achieve.”
The key to getting rich slowly is the miracle of compound interest. Even modest returns can generate real wealth if given enough time and dedication.
For example, if a 20-year-old makes a one-time $5,000 investment contribution and earns an average 8% annual return, and never touches the money, that $5,000 will grow to $160,000 by the time they retire at age 65. But if they waited until 39 to make a single investment, that $5,000 would only grow to $40,000. Time is the primary ingredient to the magic that is compounding.
Compounding can be made more powerful through regular investments. It’s great that a single $5,000 contribution can grow to $160,000 in 45 years, but it’s even more exciting to see what happens when you make saving a habit. If you contribute $5,000 annually for 45 years, and leave the money to earn an average 8% return, your retirement savings will total over $2.09 million. A golden nest egg indeed! You will have more than eight times the amount you contributed. This is the power of compound returns.
The cost of waiting one year
It’s human nature to procrastinate. “I can start saving next year,” you tell yourself. “I don’t have time to open an investment account — I’ll do it later.” The costs of delaying are enormous. Even one year makes a difference. Here’s a chart to illustrate the cost of procrastination. Again, we’re using a 20-year-old as a basis.
If you make a $5,000 annual contribution, and earn an 8% return, you’ll have $2,092,130 saved at retirement. But if you wait even five years, your annual contributions would have to increase to over $7,500 to save that same amount by age 65. If you were to wait until 40, you’d have to contribute over $28,000 a year!
To make compounding work for you:
- Start early. The younger you start, the more time compounding has to work in your favor, and the wealthier you can become. The next best thing to starting early is starting now.
- Make regular investments. Don’t be haphazard. Remain disciplined, and make saving for retirement a priority. Do whatever it takes to maximize your contributions.
- Be patient. Do not touch the money. Compounding only works if you allow your investment to grow. The results will seem slow at first, but persevere. Most of the magic of compounding returns comes at the very end.
Compounding creates a snowball of money. At first your returns may seem small, but if you’re patient, they’ll become enormous.