Compounding Stock Returns Are A Part Of A Healthy Investment Strategy
In these times of economic uncertainty many people are concerned about paying for their retirement. Pensions and Social Security are becoming less of a certainty. Most of the burden is being shifted to the individual in the form of Individual Retirement Accounts and 401k plans. As daunting as the prospect of saving for a retirement that could last over 30 years may be, you do have a powerful weapon on your side. It is the power of compounding stock returns.
If you want a method to get-rich slow, then you should consider compounding stock returns. The means in which you do this is by turning around and re-investing the dividends and profits that you make from your return. This may be a good alternative for someone who does not need the money quickly and who has the time to invest the money and wait for a return on their investment. This is not a way to get rich quick.
You need to start saving when you are young to take maximum advantage of compounding stock returns. The following example illustrates this point. Let us say that two people both want to start saving for retirement- the first starts saving $2000 per year at 19, while the second saves nothing until the age of 27. Assuming a 10% annual return in a tax-deferred account, the first person would have accumulated a nest egg of $25,199 by the age of 26, while the second person has yet to save a dime.
If our first investor stopped making new investments at age 27, while the second person began investing $2000 per year for 39 years, the first would still have more money at age 65. By investing $16,000, the first person will have $1,035,161. The second person who invested $78,000 will only have $883,185 even after investing more money for a longer period of time. Despite the power of compounding stock returns, one would not be advised to stop making regular investment.
To understand this, realize that a person at the age of 26 will actually earn more on their investments than their counterpart can earn from their portfolio. He can continue to make money each and every single year from these investments. The second person, despite continuing to invest, will never be able to catch up.
I will repeat this one more time, always take the money you earn from your investments, and reinvest it. Never spend your initial investment, or the money you earn from it. Everyone wants to spend money now, but by using compounding stock returns, you can ensure that you have money to spend during your retirement.
The power of compounding stock returns could be described as a get-rich slow strategy. Rather than chasing performance and increasing risk in the form of the latest investment fad, you add regularly to your diversified investments and reinvest any income your investments produce such as dividends and capital gains. There is a reason that this works. At 26 years old, the first person has more investment income than the other person is adding into his portfolio. He is going to make money in continually increasing amounts. No matter what, the other person will never catch up.
- Mark Crisp
