I played around with some figures using one of those online compound interest calculators to figure out how much I’d need to regularly invest for 25 years to get to £1m.
One of the first decisions was how much to assume the annualised return should be. And I know that the general stock market has historically delivered a return in the mid-to-high single-digit percentages each year once you average it all out. So even if I invest my money straight into index tracker funds, I reckon its reasonable to assume an annualised return of around 7% or 8%.
Shooting for financial independence
But for the illustration, I wanted to be more ambitious. Many investors gravitate towards investing in the shares of individual companies because they have the potential to return more than the market averages. Of course, you have to pick your shares carefully because there’s also a risk that you could see lower returns than the general market if you pick a duffer by mistake.
However, assuming that people serious about making a million in a 25-year time frame will be dedicated enough to learn about effective investing strategies, I decided to plug an annualised rate of return of 10% into the calculator. And the results are interesting. In order to compound your way to a million in 25 years with a 10% annualised return, you’d need to invest £200 each week, which works out at close to £867 per month.
My guess is that a sum like that each month is quite a stretch for many. But is it worth the effort? I reckon it probably is. If I could be 25 again, I’d go for it. The prospect is appealing to me – to be sufficiently minted at 50 to never have to work again would be awesome.
Compounding is awesome!
But there are other things you can do to vary the outcome. For example, extending the period of investing could really propel you to riches, way beyond a million. One feature of the process of compounding is that the biggest absolute returns arrive in the later years, so the longer you do it, the better.
If you keep up your £200 a week investment for another five years beyond the 25-year example, the calculator says you’ll end up with a little below £2m instead of just over £1m after 25 years.
Also, you can get an improved result by increasing the annualised rate of return. If you can get 12% each year instead of 10%, you can add an extra £1m to your pot after 30 years – little differences in the annualised return make huge differences in the eventual outcome.
So, to me, there’s a massive incentive to learn all about what makes effective investing. Understanding the ins and outs of sorting out poor businesses from awesome ones, and what constitutes compelling forward-looking prospects for companies is all worth the effort in my opinion. You’ve come to the right place to find out more here at The Motley Fool.
