Everyone tells you to save for retirement. This is the biggest lie since fidelity was introduced into the French wedding vows. You should INVEST for retirement. If you haven’t started yet, it is not too late to start. This is what you need to do TODAY.
SAVING is a Losers Game
The blunt definition of saving is putting money aside into a bank or pension plan. While this is a noble idea, the biggest mistake people make is to put this money into a low risk, low return fund, or instrument. After all, this is your nest egg – the money that you will be using in your twilight years when you have more hair growing out of your ears and nose than growing out of your head. Advisers encourage you to be conservative and play it safe. This is the worst suggestion since Abe Lincoln's suggested they go out for dinner and a show. While it is true that as you approach retirement you need to ratchet down your risk, in the years and decade leading up to retirement you need to strap on the turbocharger and grab your helmet.
To understand the implications of saving for retirement, let us do the numbers. Savers normally invest in funds and instruments where the returns are linked to interest rates. In the 1980s, long term interest rates in the United States were around 15 percent. Today, this rate has plummeted to around 1 percent. Let us now understand the impact of this structural downward shift in interest rates on the returns for savers.
If you had saved $100 per month, at an interest rate of 15 percent for 30 years, how much would your savings be worth? The answer is $692,328 ignoring tax and inflation.
If you save $100 per month, at an interest rate of 1 percent, how much will your savings be worth in 30 years? The answer is $41,962 ignoring tax and inflation. That is brutal! Imagine saving religiously for 30 years and barely having enough money to buy the bottom of the range Tesla!
You need to INVEST for Retirement
At Rebel Finance, one of the objectives is to train you on how to become a master investor replicating the strategies of market gurus like Warren Buffett. But let’s assume you do not have the time or the inclination to embark on this quest. Let me share with you a simple strategy that you can implement today.
Step 1: Cool Your Jets and Take a Deep Breathe
The stock market brings out the worst in us because people think they can use it to get rich quick. Most people are terrified of the stock market because it exhibits wild and volatile swings and this is true – in the short term. The stock market, over the longer term, tends to be more predictable and benign. Your first step is to recalibrate your opinion of the stock market and take a long-term view. You need to be patient and you need to be religiously disciplined in your investment.
Step 2: Monthly Contributions – Annual Consultations
Every month, you need to commit to investing a minimum amount of cash into the stock market and you are only allowed to check your account statement once per year.
Step 3: Choose a Low-Cost ETF
I hate ETFs because they are too diversified and at Rebel Finance we discourage investors from committing their money to overly diversified instruments (https://www.rebel-finance.com/post/three-reasons-you-should-never-invest-in-a-well-diversified-portfolio). But we also understand that not everyone has the desire or time to analyze individual stocks, which means an ETFs can be a powerful financial tool. I would recommend a broad-based country or global ETF such as the SPY or IVV.
Step 4: At Least $100 a Month
All you need to do is invest $100 per month. To understand how extremely attainable $100 per month is, I did a quick Google search on what $100 can buy you these days: Eight or ten movie tickets, 10 months of Netflix, four or five new movies on DVD, fifteen used DVDs at a yard sale, lunch for four at a fairly nice restaurant, 40 cheap burgers or 90 candy bars.
Over the past 30 years, the Standard and Poors 500 Index has delivered compounded returns of approximately 10 percent. This is better than a poke in the eye with a blunt stick and one needs to take into account that this return includes three major stock market crashes – the dot.com bubble bursting in 1999/2000, the collapse of Lehman Brothers and the Great Recession of 2008, and the Coronavirus pandemic of 2020.
So how much would your 30-year religious investment in this broad-based US stock index yield? The answer is $226,048. That is inordinately better than investing in a savings account or Treasury bonds.
How much would you need to invest every month to be a millionaire in 30 years, 20 years, 10 years and 5 years
Assuming the same total returns of the Standard and Poors 500 index, here are the monthly investments that will yield $1 million after the stipulated period
30 years: $442
20 years: $1,316
10 years: $4,881
5 years: $12,913
Are You Ready for the Greatest Thing in Finance?
The world is full of wonders. You have the Great Pyramids of Giza remain, the Hanging Gardens of Babylon, the Lighthouse of Alexandria, the Temple of Artemis, and the Colossus of Rhodes. In finance, there is one single wonder that stands out head and shoulders above the rest – and that is COMPOUNDING. The reason why the majority of humans are not aware of this modern wonder is that it is built on a trait that most humans do not have – PATIENCE. Post a video on Youtube entitled “How to Become a Millionaire in 30 Years”. How many views do you think it will get? I would wager that a video of a dripping tap would get more views. We are impatient. Everyone wants to get rich quick. The reality is that getting rich requires compounding and patience.
Let me explain. If investing $100 per month at a return of 10 percent will deliver $226,048, how much would I have if I found an investment that yields 20 percent? The human brain in all its feebleness would reason like this – if I am earning double the return (20 percent instead of 10 percent), it should earn double the return. In other words, I should be the proud owner of an investment worth $450,000. What would you say if I said that by doubling the annualized return you would earn TEN times more? You would say that I have gone bonkers – that I have donned a bright red honker and size 75 loafers, and am bouncing jelly beans off my belly and pulled live pigeons out of my ear.
Your $100 investment at 20 percent per annum will yield $2,297,783 in 30 years!! So where do you find an investment that delivers 20 percent annualized returns? Berkshire Hathaway is an American multinational conglomerate holding company headquartered in Omaha, Nebraska, United States. The company wholly owns GEICO, Duracell, Dairy Queen, BNSF, Lubrizol, Fruit of the Loom, Helzberg Diamonds, Long & Foster, FlightSafety International, Pampered Chef, Forest River, and NetJets, and also owns 38.6% of Pilot Flying J; and significant minority holdings in U.S. public companies Kraft Heinz Company (26.7%), American Express (17.6%), Wells Fargo (9.9%), The Coca-Cola Company (9.32%), Bank of America (6.8%), and Apple (5.22%). It has delivered returns close to 20 percent per annum over the past 30 years.
So what is compounding?
Albert Einstein is said to have called the power of compound interest "the most powerful force in the universe" and went on to say..." he who understands it earns it; he who doesn't pays it." The reason why you earn 10 times more with twice the return over 30 years is simply that you are reinvesting your returns. You are earning returns on your returns. This may sound like Greek, but let me explain with a simple example.
You invest $100 on day 1 at 20 percent. In one year, that $100 has grown into $120 which means you made $20 return. In year 2, again you earn 20%, but at $120. This means that you made $24 which is actually 24 percent in the original $100 invested. Look at how the returns take off the longer you invest.
Year 1: $20 (20 percent on $100)
Year 2: $24 (24 percent on $100)
Year 3: $28.8 (28.8 percent on $100)
…….
Year 10: $103 (103 percent on $100)
……
Year 20: $638 (638 percent on $100 …….
Year 30: $3,956 (3,956 percent on $100).
By year 30, you are earning an astronomical return on you’re your initial $100 because the investment has snowballed as you reinvest your returns.
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