I’ve been reading a lot about trees lately. Apparently, if we plant enough of them, we could soak up two thirds of the world’s carbon emissions.
Trees are wonderful – they could save the planet. They also serve as a rich metaphor, as investment legend Warren Buffett has shown us, saying: “Someone’s sitting in the shade today because someone planted a tree a long time ago.”
His other quotes tend to be better known, such as the one about being greedy when others are fearful, and fearful when others are greedy. I like the tree quote though, because this is exactly what you need to do for a comfortable retirement. You have to plant a metaphorical tree… look to the long-term future and start preparing for it as early as you possibly can.
Turn over a fresh leaf
I would suggest most people do this by investing in the stock market, which remains the greatest long-term driver of wealth. It beats low-risk rivals, such as cash and bonds, and high-risk fads, such as Bitcoin and spread betting. For ease and simplicity, it also beats buy-to-let property.
Over the longer run, the stock market has delivered an average annual return of around 7% a year. Yes, you have to withstand short-term volatility, but if you’re investing for the long run, that can actually work in your favour.
Say you pay in a regular monthly amount. If the market dips 10% in one particular month, you’ll pick up 10% more stock for the same amount of money. When markets recover, as they always do in time, you’ll hold more stock as a result, and they’ll generate more dividend income and growth. This way you can turn volatility in your favour.
That’s the beauty of thinking long-term – and it’s the same with trees, which take decades to grow to their full potential.
Money grows like trees
Say you start saving £100 a month at age 25, and increase your annual contribution by 3% every year, to keep up with inflation. By 67, your money will have grown to £439,242, assuming average annual growth of 7% a year.
Now here’s the exciting part. You will have paid in £98,428 from your own pocket, but compound interest will have added a whopping £340,814, doing most of the work for you. If you invest £200 a month instead, and increase your contribution by 5% a year, then you should have more than £1m by 67.
The most important thing is to reinvest all the dividend income shares generate for growth. You shouldn’t take that income and spend it, just as you shouldn’t lop off the branches of your tree if you want a decent spread of shade.
You don’t want the taxman hacking away at your effort to plant a brighter future either, so remember to invest inside your annual Stocks and Shares ISA allowance. That way all your dividend income and capital growth is free of tax for life.
The earlier you plant your tree, the longer it has to grow. Everybody needs a little shade, especially in a retirement as sunny as yours is going to be.
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Harvey Jones 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.