The Value of Investing Early.
There is sometimes a temptation to postpone investing – particularly for younger investors only rarely contemplating their retirement. After all – what’s another year or two spent living it up when retirement is so far off!
The illusion is that by waiting a few years we’re relinquishing only relatively small returns.
Let’s create hypothetical millennial Joe, who at age 22 has a spare $2000 and is considering investing in equities – the MSCI world index to be exact. The MSCI index has returned 8.6% p.a. over the past 30 years. Joe’s friends suggest, like the snake in the garden of Eden, “why not wait a few years and enjoy life a little more today”. “After all” the snake whispers, at an 8.6% p.a. return on investment, waiting 3 years you’re only passing on $586.30″. Peanuts Joe agrees, since one could likely earn more than that every single week in an average salary job. Joe decides to live it up, and to tip in an extra $500 to his investments account when he hits 25 to make up the difference. The snake slithers away and he buys everyone another round of beers!
No dramas right? Actually – for a little extra now, Joe just made a $20,000 decision.
It’s not the fact that Joe hasn’t got this extra $500 in an investment account. It’s that Joe has waited 3 years to start investing. This is because it’s not the first 3 years of investment income Joe’s giving up. It’s the final 3 years. And this is why time horizon is so important to keep in mind. If Joe had invested $2000 for retirement at age 25 rather than 22, the return on that initial investment is $18,061.87 lower over the final 3 years.
Figure 1. Investment returns per year on $2000 @ 8.6%p.a. over 43 years (black bar far left is total return over the first three years, the three bars in red are the final 3 year returns!)
The numbers are even more startling when considering what might happen if millennial Joe had tipped in $200 every month until age 65. These investments would gain “just” $1625.81 after 3 years, but over the final 3 years would have been worth worth $264,694.10. A. Quarter. Million. Dollars.
Figure 2. Investment returns on $2000 + 200/month @ 8.6% p.a. for 43 years. Black spec is total return over first 3 years ($1625.81), three red columns are the final 3 year returns (totalling $264,694.10).
This is the biggest reason starting early is valuable. If you’ve got surplus cashflow, no or low high-interest debt and a decent emergency and/or reserve fund, then perhaps it’s time to consider investing. Historically, equities have been the strongest asset class during just about every long-term time period on record. There are many low cost index funds and ETFs available for consideration that would match the MSCI world return (e.g. Vanguard Investments). Two-thousands dollars down today could buy you a Lexus in retirement. Or if we’re no longer buying cars in 2060, maybe buy yourself a vacation into space.
Disclaimer: I am not a financial advisor. No content posted on wealth from thirty should be considered financial advice. Just my thoughts. Seek personal and professional financial advice before making a financial or investment decisions.