Many people are beginning to realize the importance of investing in order to grow your wealth. Investing takes many forms and can be used for a variety of different purposes. Individuals can invest in the stock market, in real estate, in bonds, in precious metals, or in alternative investments. For many the point of investing is generating cash flow to support their life style either during retirement or as a supplement to other normal earnings.
Many people spend significant amounts of time before investing trying to pick out the right investments when one of the key factors in addition to what you invest in is when you should start investing. Overall, it is important for investors to invest while they are still young so that they can benefit from the compounding effect of money. What all of this means will be explained in this article.
Compounding Effect of Money
If you want to generate $100,000 annually in revenue during retirement and believe that you can earn a 5% return on your money you will need to have $2,000,000 saved. For an income of $50,000 you will need to have $1 million of money saved. These amounts seem daunting to many people and do not coincide with the actual funds that you will need to set aside due to the compounding effect of money, if you make investments. If you, however, maintain cash balances you will still need to save the amounts cited above, less any interest you generate on this.
Investments that you make will have their returns compound over time and will earn more money as time goes by. Think about it this way, in year one if you have $100,000 investment that earns 5% you will have earned $5,000. If you reinvest this amount in year 2 you will gain $5,250 in year 2 due to earnings on the principal and interest that you have invested. As time goes on the returns compound further and provide investors with the more significant returns that are needed to help fuel your retirement.
Waiting Out the Rough Periods
Of course, investments do not return amounts evenly, particularly in riskier investments like the stock market (equities) that have up and down years. While over time these equity markets provide for significant returns, any given year can be a part of a down market with negative returns. By investing early in your career you will be more likely to get a return that resembles the long term averages. If, instead, you start later in your career, your return can be up or down and you are leaving the amount that you are able to generate to chance.
Building a Long Term Portfolio
When you invest you will likely want to have a diversified portfolio that is both tax effective and provide some level of margin. Investing early in your life will provide you with the time to spot investments that are priced low so you can invest in them at these points. If you buy and hold investments for long periods of time the tax consequences won’t be felt until you retire and you can therefore build an tax efficient portfolio at solid costs on your time line. Picking up choice investments in a systematic manner will help to provide for a larger and more structured portfolio that you can more easily live off of.