What is the most effective and powerful investment strategy to building wealth? Is it buying low and selling high? Is it correctly timing the ups and downs of the market? Could it be the ability to take advantage of leveraging (borrowing at low-interest)? Maybe it's a combination of all those strategies but I believe the answer is much simpler - using compounded growth! Earnings on top of earnings; interest on interest. The effects of long-term compounded growth on accumulated balances can be astonishing. But most times, the response by investors when shown the historic growth of a specific dollar amount over the long-term is “I should have stayed invested.”
*Annualized returns are net of expenses and fees. Growth assumes that no withdrawals are made for twenty-year period, which is typical time horizon for people reaching or near retirement.
There are two primary requirements to achieve the benefits of long-term compounded growth. One requirement is to have access to the type of investments that are designed to appreciate long-term. The other requirement would seem to be the easier of the two since it’s just a choice, but it’s actually the most difficult thing to embrace – and that’s discipline. You can have access to long-term investments designed to appreciate, but it will not matter if you find yourself not being able to stay disciplined during down markets. And let’s face it, during down markets is when discipline is mainly tested.
The concept of compounded growth can be better described by relating it to compounded debt, an area that most people are familiar with.
Borrowing money usually has a predetermined rate of return in which the debt will grow. If no payments or minimum payments are made, the debt continues to grow larger. In addition, the longer the term of the debt, the more interest expense will accrue and possibly create larger accumulated balances.
Investing money usually has an uncertain rate of return in which the asset may grow or become less. If no withdrawals or small withdrawals are made, the investment may continue to grow. The longer the term of the investment, the greater the possibility of larger growth. ¹
The withdrawals can come in many forms – it may be a required minimum withdrawal (RMD) or a needed withdrawal to pay living expenses. But the withdrawals may also come in the form of fees, expenses, and taxes. In addition, ineffective strategies such as transaction-oriented investing, speculating, and market-timing can serve to be obstacles to achieving longer-term returns. These additional expenses may not appear to be substantial viewing them from a short-term window but calculating the effect of how those additional expenses can adversely impact long-term balances, you may feel differently about your current investment strategies.
Steven has an investment portfolio of $500,000. Julie also has an investment portfolio of $500,000. Both Steven and Julie are only a few years from retirement and have similar investment time horizons of approximately twenty-years (length of time planned to be invested in capital markets). Steven’s total annual expenses for his investments (advisor fee, investment fee, brokerage fee, custodian fee, and any other related investment expense) are approximately 2% higher than Julie’s fees (Julie is taking a more passive approach to her investments).
Using the same chart from above, the highlighted numbers reveal the significant difference in accumulated growth for variations in the rate of return. For example, the net annualized return of 6% generates approximately $508K more than the accumulated balance at 4% for a twenty-year period.
Although investing involves uncertain outcomes on which we have no control over, there are a few things we do have control over such as expenses, diversification, and management style. The good news for investors is that to achieve compounded growth, there is no special education, training, or knowledge required to earn the type of returns that are potentially available in the capital markets.¹
Carr Wealth Management, LLC can help you maximize potential returns by granting you access to institutional long-term investments that have historically generated positive risk-adjusted returns and implementing a discipline-driven strategy that you can understand and measure against related benchmarks. Please visit our website www.carrwealth.com to learn more about our services and feel free to contact us to discuss your financial goals.
¹ Investing may result in losses of value, including losses of original investment.
² Past performance is no guarantee of future value