At its core, investing is the act of forgoing consumption today in exchange for increased consumption in the future. While not all people are such Type-A planners that they have a perfect vision of what retirement will look like, most of us have at least some vague sense of how we might spend our golden years. For me, I hope retirement includes lots of travel, food, golf, and the spoiling of some grandkids. Whatever retirement looks like, it’s likely that you will need to make sacrifices today to turn that vision into a reality.

When it comes to leveraging the financial markets to build wealth, there are various ways an investor can seek to maximize their efforts. The most reliable methods, however, are often overlooked. Attempts to increase portfolio returns are often focused on stock picking or market timing. Common approaches include:

• Chasing past performance by moving money into a recent high-performing active fund
• Piling into the hot stocks of the day, currently NVIDIA and the other Magnificent 7 stocks
• Taking random stock tips from friends, family, colleagues, or other market pundits
• Selling out of stocks when market anxiety rises
• Sitting in cash until ‘the dust settles’

We have written (and reposted) about the detriments of stock picking and market timing on many occasions. Most recently, here and here. Ultimately, these common approaches for increasing portfolio returns often end up costing money in the long run.

Fortunately, there are reliable ways to put yourself in a position for investment success that does not require outsmarting the market. These include:

• Building a portfolio that properly balances risk and return
• Staying disciplined and sticking with that portfolio for the long term
• Controlling expenses and taxes by emphasizing low-cost funds and minimizing trading
• Using your investment horizon to your advantage

The last bullet above deserves more discussion, as time is likely the single biggest advantage individuals have over the ‘smart money’ on Wall Street. Unlike professional money managers, an individual investor does not have external stakeholders to answer to. Consequently, there is much less pressure to make short-term focused decisions that are likely to be detrimental in the long run. Individuals have the luxury of patience and discipline because they don’t have to fire themselves if they don’t want to.   

Time is a huge asset for individuals, and having more time equates to more benefits. A long horizon means that if the market experiences volatility, an investor has time for the portfolio to recover its value. This is a big reason why younger investors are generally able to hold a more aggressive portfolio, all else equal. More time also provides more room for the power of compounding to do its thing. The chart below illustrates this aspect of time. It shows how much you would need to invest each month to reach a certain level of wealth by retirement (age 65).

Calculation is based on a 6% annualized return compounded monthly. Analysis ignores the impact of taxes. Assumes an initial starting balance of $0 and retirement at age 65. 

As you can see, the age at which you begin investing has a significant impact on how much you need to regularly set aside. The longer the horizon, the more an investor can benefit from the power of compounding and the less money they need to save. Assuming a 6% annualized return, if you began at age 30, you would have to invest $728 a month to have a million-dollar portfolio by age 65. If you waited just ten years and instead began investing at age 40, you would have to roughly double your monthly investments to $1,479!

There is nothing magical about a million-dollar portfolio, the figure was selected because it is a nice round number. If your desired balance at retirement was $500k, $5 million, or $10 million, simply multiply the monthly savings amounts by 0.5x, 5x, or 10x to see how much you would need to start investing a month to get there based on your current age. 

Everyone’s retirement vision is different, and so is the balance sheet needed to support it. For most of us, achieving that financial security in the future will require sacrifices today. The earlier you start, the more you will be able to harness the power of compounding and the less you’ll have to sacrifice. 

Source: MarketWatch

IMPORTANT DISCLOSURE INFORMATION