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Sunday, 2 September 2007

Your First Million Is the Toughest

by Chuck Saletta

The old saying that the rich get richer is very true. As long as you manage your money well, it's far easier to make money if you've already got some cash socked away than it is to start from scratch. The reason is simple: compounding.

When you've already got money working on your behalf, each percentage point of return simply adds that many more dollars to your account balances. After all, if a stock you own goes up in value, it's far better to own 10,000 shares than it is to own 100.

Start small
Fortunately, anyone with even a little cash to invest can take advantage of the power of compounding. It just takes a little while longer for the rest of us to get to the point where it can really work its magic.

To show how it works, here are a few charts that showcase how many years it takes to reach each $1 million threshold given that you regularly invest and earn a decent rate of return.

To go from $0 to $1 million:

Monthly
Contribution

8% Return

9% Return

10% Return

11% Return

$100

52.9 years

48.3 years

44.5 years

41.4 years

$250

41.6

38.3

35.5

33.1

$500

33.4

30.9

28.8

27.0

$1,000

25.5

23.9

22.4

21.2

$1,291.66

22.8

21.4

20.2

19.1

To go from $1 million to $2 million:

Monthly
Contribution

8% Return

9% Return

10% Return

11% Return

$100

8.6 years

7.7 years

6.9 years

6.3 years

$250

8.5

7.5

6.8

6.2

$500

8.2

7.4

6.7

6.1

$1,000

7.8

7.1

6.4

5.9

$1,291.66

7.6

6.9

6.3

5.7

To go from $2 million to $3 million:

Monthly
Contribution

8% Return

9% Return

10% Return

11% Return

$100

5.1 years

4.5 years

4.1 years

3.7 years

$250

5.0

4.5

4.0

3.7

$500

4.9

4.4

4.0

3.6

$1,000

4.8

4.3

3.9

3.5

$1,291.66

4.7

4.2

3.8

3.5

That $1,291.66 number didn't come out of thin air -- it represents the current maximum monthly contributions available in a 401(k) or 403(b) account for most people. What these charts mean is that you can go from $0 to $3 million in as few as 28 years with a little bit of determination to take advantage of the opportunities you have available. Most of that time is spent getting to that first million. Once you hit that milestone, compounding really takes over to help you reach your ultimate goal.

Get from here to there
The most difficult part is getting started. After all, if you're not already saving money now, going from $0 to nearly $1,300 a month may seem an impossible task. Fortunately, though, you can get some major assistance in your quest to invest.

For instance, any money you contribute to your traditional 401(k) or 403(b) plan to help you earn your millions will most likely come with an immediate tax reduction. Thanks to that tax break, it's as if Uncle Sam will kick in a significant chunk of that cash on your behalf, reducing the total out-of-pocket cost of your contribution. For folks in the 25% tax bracket, it works out to an out-of-pocket cost of only $75 per $100 of contributions -- a significant savings.

You really can get rich
Once you get started investing, though, the rest is largely a matter of owning solid companies and letting compounding work its magic. Over the past 20 years, for instance, the following companies have all produced decent returns:

Company

Price on
8/10/1987

Price on
8/10/2007

Dividends/
Spin-offs

Annualized
Return

Boeing (NYSE: BA)

$11.36

$98.44

$12.54

12.1%

United Technologies (NYSE: UTX)

$7.35

$73.08

$8.22

12.8%

Fannie Mae (NYSE: FNM)

$2.73

$66.46

$17.12

18.7%

Wendy's (NYSE: WEN)

$11.25

$30.80

$42.23

9.8%

PepsiCo

$6.58

$67.95

$13.31

13.4%

General Mills (NYSE: GIS)

$10.24

$55.34

$18.70

10.4%

Automatic Data Processing (NYSE: ADP)

$6.31

$48.42

$10.98

11.9%

All values split-adjusted.

Those solid returns came from companies that were already fairly well known, even 20 years ago. Better yet, owners of those stocks earned those returns in spite of short-term problems like Fannie Mae's accounting issues and the effect that September 11 had on air travel. This goes to show that you don't have to buy the perfect companies to receive solid returns and build your wealth over time. What matters most is freeing up the cash to make those regular investments.

The two most important parts of getting to -- and past -- your first $1 million in investments are a bit of time and regular contributions of cash.

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