Not Investing in an IRA This Year Will Likely Cost You At Least $42,000
Most of us have probably seen a simple chart showing the long term effects of compound interest:
Simply save $X for Y number of years at a certain growth rate, and BAM! Your small amount of savings has grown into a large sum.
And despite this overused and overly simplified example, if you think about it, the results are still pretty magical. Our chart above shows an example of saving $5,500 per year for 29 years at a 7% growth rate (roughly the long term average return of the stock market). Despite saving “just” $159,500 over those 29 years, because of the interest earned on that savings, and the interest on the interest that you earn each year, your $159,500 grows into a much larger sum - $519,534 to be exact.
But this type of example doesn’t always seem to urge people to start saving today. It might stress the importance of saving sometime in the near future. But if I’m thinking about a goal a few decades away, why do I need to start today?
And it is that question that brings up an important point when looking at long term goals, highlighting why getting started today is so important:
The probability of achieving your long term goals largely depends on what you do today, not the future.
To illustrate why, let’s make one minor change to our previous example. We’ll keep the same growth rate and the same dollar amount saved each year, but just keep doing it for one additional year.
Or put another way – What’s the difference in starting this savings plan today compared to a year from now?
How much could saving just an extra $5,500 over 30 years really help you?
That one time $5,500 deposit means nearly $42,000 later.
Just to put that in perspective:
· $42,000 is more money than you contributed for the first 7 years combined.
· $42,000 was your total interest earned from the first 12 years of saving.
$42,000 - All from one single year.
The exponential nature of compounding interest means that your long term total return is heavily dependent on the final couple years. Waiting just 1 year in the example above costs you more than 40 grand, or 7% of your total savings.
In order to take advantage of those incredibly high returns at the far right side of that chart, you need to get the ball rolling now.
The likelihood of you achieving your long term goals is heavily dependent on what you do now, not the future.
So it shouldn’t surprise you when I show you what starting even a few years earlier will do to your final total.
Any guesses on what our end total is for someone who saves $5,500 per year for 35 years instead of 30 (Just $27,000 more in total)?
That extra $27,000 saved early on results in $258,000 more later.
You may have asked why this guy from Hylland Capital is trying to convince 25 year olds to start saving for retirement – this is why.
Warren Buffett has said:
“Someone is sitting in the shade today because someone planted a tree a long time ago.”
Today is your chance to plant that tree for yourself.
Learn from the Best
And speaking of Buffett, he is a perfect example of how much of your total return happens on the right side of the graph. Just look at his wealth over time:
The chart above comes from an article on marketwatch, found here: http://www.marketwatch.com/story/from-6000-to-67-billion-warren-buffetts-wealth-through-the-ages-2015-08-17
And this chart is a year old. Buffett is worth north of $73 billion today. Buffett increased his net worth by $15 billion last year. Buffett wasn’t even worth $15 billion 20 years ago.
So surely, last year must have been one of Buffett’s best years ever, right?
Here are Buffett's annual returns since 1965:
Buffett has averaged 19% compounded annual return since 1965. But he has only returned 19% once in the last 18 years! Buffett’s largest returns were decades earlier. Buffett’s performance over the last 19 years is nothing compared to what he did in the 60’s, 70’s and 80’s. And it doesn’t even matter. Buffett got that ball rolling at a very early age and he is receiving the dividends from that now.
Buffett delivered papers in his early teens. He only made a few thousand dollars, but he saved it all. Buffett owned and operated pinball games around town in his late teens. He made a few thousand more and saved it all. A few years later, despite his high savings, Buffett drove an old Volkswagen Beatle because he wanted to put a little extra into savings. He knew what saving even small amounts of money would mean 60 years later.
Think about this. Buffett made more money last year than he made in the first 65 years of his life in total, despite his lower returns.
That is the power of compounding interest.
Compounding interest works whether you have thousands of dollars or billions. Compounding interest works whether you have large returns or small.
But it will not work if you don’t give it time.
Time is the most important element in your long term financial success. Not your income, not your returns.
The most important thing you can do is get started today.
About Hylland Capital
If you haven’t figured it out yet, the money decisions you make today will likely be much more impactful than what you do in the future.
At a time when you are making the most important financial decisions of your life, shouldn’t you have some help?
But the sad thing is, many financial advisors don’t want to work with you unless you have hundreds of thousands of dollars in the bank.
That’s why I created Hylland Capital Management. Our purpose is to offer help to those who truly need it, and who will benefit most from it.
We have no account minimums. No net worth minimums. No income minimums.
We provide help from basic budgeting and savings advice – so you can get that ball rolling, to complex financial planning – so you can ensure that ball keeps rolling.
Need help finding the best way to pay off that debt so you can start saving? We can help!
Need help figuring out your workplace 401(k) so you can ensure you are taking advantage of your benefits? We can help!
Need help figuring out how to allocate your investments in today’s confusing environment? We can help!
Whether your problem is large or small, we can help. Get in touch with us today to see what we can do for you.