I think everyone goes through a phase where they learn to smarten up and get real. We all have that stupid period in our life where we don’t use our money efficiently. Well the earlier you end up having this revelation, the more your net worth will grow. Starting is the hardest part because you’re not really growing your money. If you save $1000/mth for a two years, you’re probably going to have about $36,000. If it is in an investment account, or index funds it doesn’t matter. The long term growth of your money is the returns of large sums.
Let me give you a perfect example of this. Let’s say we have “Person A” who is 25 years old and starts to save immediately from scratch. Let’s say we have “Person B” who is 45 years old and finally realized they need to get their act together. Let’s say that they both save $1000 a month, except that Person A only earns 5% return annually and Person B earns 10% return annually.
Person A
Retires at 65 (40 years of savings)
Starts: $0.00
Monthly Contribution $1000.00
Total Saved: $480,000.00
Value of Saved at 5%: $1,522,000.00
Interest: $1,042,000.00
Person B
Retires at 65 (20 years of savings)
Starts: $0.00
Monthly Contribution $1000.00
Total Saved: $240,000.00
Value of Saved at 5%: $756,000.00
Interest: $516,000.00
As you can see, Person A has twice as much as Person B. What I’m trying to illustrated with this example is the fact that starting early works. I know we can point out that Person A has been saving for 20 years longer than Person B, but the fact remains that starting early is far better. Person A was calculated at half the return annual return value as Person B. Even with an overall below average return you’re still earning over a million in just interest alone as Person A.
In reality Person A and Person B would earn about the same amount on the market. But as you get older you should be making more and can hopefully contribute more every month (assuming you haven’t debted yourself up on new expensive vehicles and a house that’s really too expensive for you).
Person A
Retires at 65 (40 years of savings)
Starts: $0.00
Monthly Contribution $1000.00
Total Saved: $480,000.00
Value of Saved at 7%: $2,563,000.00
Interest: $2,083,000.00
Person B
Retires at 65 (20 years of savings)
Starts: $0.00
Monthly Contribution $1500.00
Total Saved: $360,000.00
Value of Saved at 7%: $789,000.00
Interest: $429,000.00
So when we look at it now they both start at their original times for savings, but this time they have the same market return and Person B is going to contribute an extra 50% each month. As you can see, the vast majority of Person A’s money is the interest. In fact, two million dollars worth of it. Whereas Person B’s originally invested money amounts to 46% of the value of the total.
I know that these numbers are simple and life is more complicated. At 40 you’re going to have a house that has nice equity. You’re going to have “human capital” value with your job. But the raw numbers illustrate that the sooner you’re start the better off you are. The more time your money can compound, the more your money is working for you. This is very important to understand especially if you want to do passive investing. So definitely start soon and get going on it. Pay off your consumer debts and student loans, so you can start saving your money.