While the FTSE 100 has the potential to deliver high returns in the long run, beating it through buying its strongest performing shares could make the task of generating a £1m ISA somewhat easier.
Through focusing on the best value shares available, as well as providing them with the time they need to deliver on their growth strategies, an investor may be able to improve their chances of outperforming the index.
Furthermore, by reinvesting dividends and overcoming the temptation to spend profits made along the way, an investor can increase their long-term returns. Doing so could help them on their quest to achieve a seven-figure portfolio.
While some investors view value shares as those that are the cheapest, this isn’t always the case. Certainly, some cheap stocks can offer excellent value for money. However, even stocks that have high price-to-earnings (P/E) ratios can be appealing to a value investor if they offer high earnings growth potential.
Therefore, it makes sense to not only focus on the price of a company, but also on its strategy and how it could perform from a financial standpoint in future. For example, a number of FTSE 100-listed consumer goods companies that have strong growth prospects in emerging markets may have P/E ratios that are above the index average. But they may be worthy of a premium valuation and therefore offer good value for money, as a result of their potential to grow earnings at a fast pace over the long run.
Buy and hold
It’s always tempting to sell a stock that’s delivered capital growth in order to reinvest elsewhere. However, the reality is that sticking with your top-performing stocks could be a good idea.
Certainly, if a stock has surged higher and now appears to be grossly overvalued, it could be worth pivoting to a better-value share. But in many cases stocks that are performing well can continue to do so over an extended time period. Therefore, an investor may miss out on their full growth potential by selling too early.
Moreover, shares that have risen due to an increase in the price level of the wider market may be no more expensive than their peers. Selling them may cause an investor to invest in companies that don’t offer a superior risk/reward ratio over the long run.
While the passive income that investing in FTSE 100 shares can offer may boost your present-day income, reinvesting it for the long term could have a far greater effect on your overall financial outlook.
The impact of compounding on a portfolio may not be all that obvious over a period of months, or even a few years. However, for those who have a long-term time horizon, it can add a significant amount of capital to a nest egg that ultimately increases its chances of gaining seven-figure status.
That’s especially the case at present when a number of FTSE 100 stocks have generous yields that can be in excess of 5%, or even 6%. By reinvesting those dividends, the prospect of becoming an ISA millionaire could be greatly enhanced.
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Peter Stephens has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.