The power of compound interest
I wanted to quickly illustrate the importance and power of investing regularly and while still young. I find in my conversations that people even very familiar with the topic are surprised by the power of compound interest and the effect it can have on your long-term wealth.
Compound interest means your investment earnings generate earnings of their own. Say you have $10,000 invested and earn a 10% return. Well in year 2, you now have $11,000 (10k + the 1k from the 10%) to earn a % on, and this keeps going up. You are now making money on the money you have made. As the years go on, this becomes very powerful. In fact, if you earn on average 10% a year, your money will double nearly every 7 years.*
The earlier you begin, the longer that cycle has to work. The key is to consistently put money into the market to work and give it time to grow.
Start investing at | Monthly contribution | Years invested to age 65 | Total contributed | Illustrative value at age 65 |
Age 35 | $500 | 30 | $180,000 | ~$610,000 |
Age 40 | $500 | 25 | $150,000 | ~$405,000 |
Age 45 | $500 | 20 | $120,000 | ~$260,000 |
Age 45, catching up | $1,000 | 20 | $240,000 | ~$521,000 |
This hypothetical illustration assumes a 7% annual return, monthly contributions made at month-end, no taxes, fees, withdrawals, or changes in contribution amount. Returns are not guaranteed, and investments can lose value. This is a hypothetical example and is not representative of any specific situation. Your results will vary. The hypothetical rate of return used does not reflect the deduction of fees and charges inherent to investing.
The catch-up investor contributes $60,000 more than the person who began at age 35, but still finishes with about $89,000 less at age 65. The lesson is simple: starting early lets time do more of the work, so you may not need to make up for lost years by saving dramatically more later.