August 19, 2022

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Learn This Investing Lesson, And You’ll Have the Key to Success | Personal-finance

3 min read

The one thing I wish I could shout from the top of a mountain is that investing doesn’t have to be hard. To be a successful investor, the main things you need are time and consistency. It doesn’t take perfectly timing the stock market; it doesn’t take Apple-like (NASDAQ: AAPL) returns (its stock price is up well over 150,000% since its December 1980 IPO); it doesn’t take spending hours reading daily financial statements. It just takes time and consistency.

Let compounding do the heavy lifting

Compounding is either your worst enemy in finance or your best friend. When it comes to debt, compound interest can add insult to injury and add to your totals. In investing, compounding occurs when the returns you earn on your investments begin to earn a return themselves. It’s you putting your money to work, and then your money continuing to put itself to work. It’s hard to reach $1 million strictly by saving; you need to invest it and let compounding work its magic. It’s how most people build their wealth.

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Albert Einstein is reputed to have called compound interest the “Eighth Wonder of the World.” It’s certainly a powerful force. Once you realize the power of compound interest in investing, you’ll begin to see how expensive it is to put off investing. The only right time to begin investing is the present time.

Just give yourself time

Let’s imagine you invest $1,000 monthly, with average returns of 10% annually. Here’s how those investments would stack up by the time you reach 67 years old — the full retirement age for Social Security for people born in 1960 or later — depending on when you start:

Starting Age Years Until 67 Account Total
65 2 $25,200
55 12 $256,600
45 22 $856,800
35 32 $2.41 million
25 42 $6.45 million

Data source: Author calculations.

This table really showcases the power of time and compound interest. Even though there are 10-year increments between each, the account total gaps widen the more time you give yourself. The difference between starting at 45 and 55 is around $600,000, but the difference between starting at 35 and 45 is over $1.5 million.

You don’t have to have large lump sums of money to invest to become a millionaire or financially well-off; you just need time and consistency. Even if you could only afford to invest $500 monthly, you could still reach millionaire status in just over 30 years with those same returns. Of course, there are no guarantees or foolproof investments, but if you’re investing in the overall market via funds like the S&P 500, averaging 10% annual returns over the long run is feasible.

Use the Roth IRA tax break to its advantage

One of the best ways to take advantage of compound interest is utilizing a Roth IRA. With a Roth IRA, you contribute after-tax dollars, so in return, you get to take tax-free withdrawals in retirement. As of 2022, the IRA contribution limit was $6,000 ($7,000 if you’re 50 or older). If you invested $6,000 yearly in both a Roth IRA and brokerage account with 10% returns for 20 years, you would have over $343,000 in each account.

The difference is that with the Roth IRA, all of the money would be yours. With the brokerage account, you’d owe capital gains taxes on the profit. If you’re eligible to contribute to a Roth IRA, at least contribute up to the limit before investing in your brokerage account. The tax-free withdrawals can save you tons of money in retirement.

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Stefon Walters has positions in Apple. The Motley Fool has positions in and recommends Apple. The Motley Fool recommends the following options: long March 2023 $120 calls on Apple and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.

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