Page 5 - Advice Matters - Byfields Wealth May 24

How Small Investments Make a Big Impact Over Time

Time is an investor’s biggest ally, even if they start with just a describing it like a snowball collecting snow as it rolls down a
modest portfolio. very long hill.

The reason behind this is compounding interest, of course, This graphic shows how compound interest can dramatically
thanks to its ability to magnify returns as interest earns interest impact the value of an investor’s portfolio over longer periods of
on itself. With a fortune of $159 billion, Warren Buffett largely time, based on data from Investor.gov.
credits compound interest as a vital ingredient to his success -

Why Compound Interest is a Powerful Force

Below, we show how investing $100 each month, with The Two Key Ingredients to Growing Money
a 10% annual return starting at the age of 25 can generate Generally speaking, building wealth involves two key pillars:
outsized returns by simply staying the course:
time and rate of return.
Below, we show how these key factors can impact portfolios
based on varying time horizons using a hypothetical example.
Importantly, just a small difference in returns can make a huge
impact on a portfolio’s end value:

With this in mind, it’s important to take into account investment
fees which can erode the value of your investments.
Even the difference of 1% in investment fees adds up over time,
especially over the long run. Say an investor paid 1% in fees,
and had an after-fee return of 9%. If they had a $100 starting
Portfolio value is at end of each time period. All time periods are five investment, contributed monthly over a 25-year time span, their
years except for the first year (Age 25) which includes a $100 initial portfolio would be worth over $102,000 at the end of the period.
contribution. Interest is computed annually.
By comparison, a 10% return would have made over $119,000.
Portfolio value is at end of each time period. All time periods In other words, they lost roughly $17,000 on their investment
are five years except for the first year (Age 25) which includes a because of fees.
$100 initial contribution. Interest is computed annually.
Another important factor to keep in mind is inflation. In order
As we can see, the portfolio grows at a relatively slow pace over to preserve the value of your portfolio, its important to choose
the first five years. investments that beat inflation, which has historically averaged
around 3.3%.
But as the portfolio continues to grow, the interest earned
begins to exceed the contributions in under 15 years. That’s For perspective, since 1974 the S&P 500 has returned 12.5%
because interest is earned not only on the total contributions but on average annually (including reinvested dividends), 10-Year
on the accumulated interest itself. So by the age of 40, the total U.S. Treasury bonds have returned 6.6%, while real estate has
contributions are valued at $19,300 while the interest earned averaged 5.6%. As we can see, each of these have outperformed
soars to $24,299. inflation over longer horizons, with varying degrees of risk and
return.
Not only that, the interest earned soars to double the value of
the investor’s contributions over the next five years—reaching Source: https://www.visualcapitalist.com/how-small-investments-
$52,243 compared to the $25,300 in principal. make-a-big-impact-over-time/
https://www.investor.gov/financial-tools-calculators/calculators/
By the time the investor is 75, the power of compound interest compound-interest-calculator
becomes even more eye-opening. While the investor’s lifetime
contributions totalled $61,300, the interest earned ballooned https://advisor.visualcapitalist.com/60-years-of-stock-market-cycles/
to 25 times that value, reaching $1,489,172. https://www.visualcapitalist.com/visualized-how-long-does-it-take-to-
double-your-money/
In this way, it shows that investing consistently over time can https://advisor.visualcapitalist.com/complete-breakdown-of-sp-500-
benefit investors who stick it through stock market ups and companies/
downs.

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