Investing is one of those things that many people know is important but still struggle to get started with.
Fear is a big reason why.
People hear stories of huge market market declines and they fear losing their money. They also hear all about the seemingly complicated strategies discussed by their friends, co-workers and so-called “experts” in the media, and they fear that they don’t know enough to be successful. Or they fall into the trap of analysis paralysis, where the sheer number of options overwhelms to the point that they fear making the wrong choice.
This fear is very real for many people, and the unfortunate consequence is that it prevents them from applying one of the most powerful investment tools at their disposal: starting early. The truth is that time is one of your best friends when it comes to investing and that your returns don’t truly start mattering all that much until enough time has passed for you to build some real wealth. So today I want to present a little information that should temper some of that fear and help you feel a little more comfortable getting started with investing.
Early investment returns have little impact
In a recent article, legendary retirement researcher Wade Pfau looked at the importance of the investment returns earned in each year during both the working/saving years and the retirement years (see the full article here: Lifetime Sequence of Returns Risk). Assuming a 30-year investment period followed by a 30-year retirement, in which years did the returns earned have the biggest impact on whether an individual would have enough money to last a lifetime?
Let’s look at the graph above, taken directly from that article, and focus on years 1-30 (years 31-60, starting where the bars get really tall, represent the actual retirement years and are the subject of a different discussion).
The height of each bar represents the impact of that year’s investment returns on the final amount of money accumulated by retirement. In other words, how important are the returns for that given year to your end goal of having enough money to retire?
Well, it turns out that in those first few years of saving, the investment returns have very little significance. You can barely even see a bar before Year 3, and it isn’t until Year 8 or 9 that the a single year’s returns helps to determine even 1% of the final outcome. Whether your returns in those first few years are good or bad, they have little little impact on whether you will actually reach your end retirement goal.
What does this mean for you?
What this means is that you should start investing right now, even if you stink! With those first few years of returns being relatively unimportant, you don’t need to worry about doing something wrong or understanding all of the little nuances that can go into investing.
Even if you mess up, you’ll be okay because it takes about a decade before your returns start to have a significant impact on where you end up. So you don’t have to be afraid of making a mistake, and you definitely shouldn’t feel like you need big returns to make it worth your while.
But if your early returns don’t have much impact, why should you even focus on investing at all?
Well if you want to eventually have enough money to retire, you need to accumulate enough money so that your returns eventually DO matter. See how those lines start getting taller and taller? That only happens if you’ve put enough money in. So this gives even more weight to the fact that your early years of investing should be focused much more on how much you’re saving rather than the level of returns you’re earning. Your contributions in those first few years will form the foundation of your retirement plan, allowing you to benefit later from the magic of compound interest.
In the meantime you can learn your way through investing slowly, trying different things out and finding a strategy that works for you without worrying that a mistake now will ruin you forever. Recognize that there will be ups and downs, but that’s all part of the process even when you know what you’re doing.
Don’t let the downs scare you. Instead, use them to learn about yourself and your investment style and remember that when you’re starting early you have time to recover from even big mistakes.