Does one percent matter? If you’re watching the balance in your portfolio for one year, the difference between an eight percent return and a seven percent return can be a fair amount of money, but won’t really change your life. But maintain that difference for a generation and the impact will really get your attention.
Let’s let the numbers speak for themselves. Start with $1 million and earn five percent a year for 25 years. You’ll end up with a tidy sum of $3.5 million. Bump the return up just one notch to six percent for the same period and the total is a far tidier $4.5 million.
The difference between seven and eight percent returns? It’s even more dramatic: $5.7 versus $7.4 million.
Earn an annualized nine percent for 25 years and you’ll have $9.5 million after a generation.
Whoever invented compounding should win the Nobel Prize, a Super Bowl ring and an Oscar every year. Sure it’s just simple math, but its impact is pure magic for long-term investors.
By controlling expenses, limiting tax exposure, and maintaining the desired asset allocation over the long term, investors can significantly elevate their cumulative wealth.
Of course, there’s a downside too. Subtracting a seemingly puny percent of return each year can cost hundreds of thousands of dollars over long timeframes. NASA scientists faced a similar situation before landing men on the Moon – off 1 inch on Earth, off 1000 miles on the Moon.
Like a trip to the moon, generational investing is a long journey, so staying on course is essential. Next time we’ll take a closer look at the importance of maintaining your target asset allocation.