Saving for pension? - amazing power of compound interest!

[cardguy]

I have written about Compound Interest before - something Albert Einstein called the Eighth Wonder of the World.

http://www.rooshvforum.com/thread-26172-post-520736.html#pid520736

http://www.rooshvforum.com/thread-26172-post-520843.html#pid520843

But this article still startles me.

It turns out that saving for your pension for ten years (between the ages 21-30) will produce a bigger pension pot than saving for 40 years later in life (ages 31-70).

http://www.telegraph.co.uk/finance/...or-10-years-pays-more-than-saving-for-40.html

The journalist thinks that is the most amazing fact in his article. But I think there is an even better one buried in there.

It turns out that if you take a new born baby and put aside pension contributions for the first 2 years (ages 0-2). The baby will end up with a larger pension than if the person spent the 40 years from 31-70 putting aside pension contributions each year.

This is a real head fuck for me! Does this mean we could solve the pensions crisis by just putting aside money when kids are born?

 

[Chemistry]

Yes. Because the "big money" of compound interest comes all toward the very end.

Exponential functions (i.e. compound interest) work so that your money will double in X years (Higher interest rate = smaller X)

Over the first 18 years of a kid's life, that's at least one extra "doubling" period. And that early doubling leaves room for an extra doubling later in the kid's life (a "doubling" that a late-starter won't get).

Great idea though, saving for the kid's own retirement at the time of his/her birth. Regular financial advice is to start saving early (i.e. early 20s when you first start making money). Why not be 18 years ahead of that particular train

 

[polar]

Rule of 72, divide 72 by your annual % return to get how many years it will take to double.

Funding 18 years early sounds like a trust fund baby.

 

[cardguy]

Yeah - but the figures from the article are remarkable.

Just 5K at birth - will result in a bigger pension than people spend 40 years trying to build up.

Talk about a free lunch...

 

[lavidaloca]

The general consensus I've read is that you can expect 1000% gains every 25 years you are invested in equities. I doubt this takes into affect taxes but there are certainly a number of tax deferral methods that are available. (most to business owners) Thats why the people who are stupid rich are typically very old.

1 million at 20 = 100 million at 70. = 1 billion at 95

More or less. Buffet was able to get such a high net worth because of his extremely high returns. If you were starting out with $0 today and invested 20k a month in 60 years you'd have 73.5 billion if you got 20% annual returns (which is approaching Buffet returns). Now 20k a month is probably on the ridiculous side for most people but even if we drop that number to 3k a month you still end up with 11 billion in 60 years.

Hence, when you break it down Buffett wouldn't have had to invest as much money as people would typically think in order to obtain his net worth. The vast majority would be money made on money.

Food for thought? Every extra percent you get in returns pays out substantially later in life! People who build a company from start to finish that go public and are a big success are typically the richest people in the world. They are able to get a very high rate of return far higher than that of index funds.

Personally, I'm beginning to lean towards having 100% of equities. Most people don't have the stomach for it but hopefully I'll be the one laughing a 1/4 century from now.

 

[cardguy]

Warren Buffett is a great example of this. Check out these stats:

Of Warren Buffett’s current $60 billion net worth, $59.3 billion came after his 50th birthday, and $57 billion came after his 60th. Compound interest works its wonders only in very long periods of time.

 

[polar]

It's important to maximize inflation-adjusted returns.

I'd be curious to see Buffett's wealth over time adjusted for inflation.

 

[lavidaloca]

It's crazy to think that one could legitimately reach 11 figure net worth (10 billion +) without ever making even 7 figures in a year if they were able to generate very high returns like Buffett. Heck a guy could reach 10 or 11 figures never making 6 figures in a year if he were to invest 3k every month at 20% return for 60 years. (Granted in both these scenarios they would owe substantial taxes)

I think that the next generation of rich will be multiples richer than the current generation. It wouldn't surprise me to see someone like Zuckerberg reaches a trillion dollar net worth.

I think the issue becomes a then vs. now argument. Who wants to wait 25 years to buy a car the really want, a house etc.

A 25 year old who invests 3000 a month for 40 years ends up with 16 million with a more normal 10% rate of return. Unless inflation gets ridiculous that should be more than enough for a great retirement.

Hopefully we see some young people 25-50 years from now on the rooshv forum thanking you for point this out to them. Of my peer group from undergrad 90% of which studied business 90% of them show no interest or investment in equities. It's the typical buy a house, car etc. While they may get the toys quickly, it's a rather shortlived advantage.

 

[Laurifer]

Saving is very important. But whoever is managing your retirement isn't going to do it for free. Americans with 401k's should be careful because along with compounded interest are compounding fees (expense ratios) that are applied to the entire balance of your retirement savings, not just what you've earned in interest. You could end up paying 1/3, 1/4, or even 1/2 of your entire 401k in fees.

Quite a significant issue that many Americans are not aware of.

Take a look at this:

How retirement fees can cost you

Edit: Made several modifications to post

 

[cardguy]

Warren Buffett was always focused on the long term.

Even when he was young and a millionaire - he hated buying his wife nice things.

To his wife the dress might only be a hundred bucks.

But in his head - he knew the money he spent on that dress would compound in the future to be tens of thousands of dollars.

 

[monster]

Compound interest isn't nearly as great as it first seems once you realize that inflation also compounds, and that inflation is always a helluva higher than the "published" numbers by the BLS. Like right now they say inflation is at 1-2%. That's cause they exclude everything that really matters....food, insurance, energy...basically the things that people spend 50% or more on.

Then of course there's taxes...

Suddenly compound interest isnt quite the eight wonder of the world.

 

[lavidaloca]

Generally speaking people who have very high net worths are using tax deferral strategies. So sure they may pay large amounts of taxes when they withdraw 30 years from now but they also were using a ton of money to invest that they wouldn't otherwise have access to.

Inflation may go up by 2% a year but your income should also go up by a factor. Taxes suck but it's very different for someone who has to invest after paying 46% income taxes on the money than someone who only pays a preferential rate of 15.5% then invests. The second person will owe a lot of taxes at some point but they also were able to invest money that the first person wouldn't have access to.

Of course the value of money will deflate. A million dollars 40 years from now would probably not allow for a reasonable retirement in America. But we have higher salaries now than we did 40 years ago that should make up for this. Beyond that the board is largely geared towards people who have an affinity for travel and long term living abroad. Perhaps a specific country will undergo massive inflation and no longer be an attractive option 20 years from now (Brazil is a place that comes to mind) but there will certainly be other places that have suffered far less inflation.

Take your wealth where it goes further. The problem is most people buy a McMansion and then never want to leave it even when it is completely financially imprudent. I read an article today about a couple with 4 million in net worth who were "struggling". The clear reason was that 2 million of it was tied up in their house, add to that low yielding investments and they were hardly living a great lifestyle. This is why I don't understand why people shell out so much on housing. If they sold the house and moved into a place more modest they could have a nice yearly income providing for a pretty good retirement income.

 

[tarquin]

Tax deferral can be great, but if you qualify for a Roth IRA you are much better off paying the taxes now and having all of your investment gains be tax free.

 

[Feisbook Control]

I wouldn't have my money anywhere near a Roth IRA. Why? Because one of the main incentives for putting money in such a thing is that you don't get taxed on the way out. Yeah, right, sucker. Reckon the government isn't going to double dip? Think again. You can trust the government about as far as you can spit a rat.

A year or two ago, my father was squealing like a pig because the Australian government was going to double dip in exactly this fashion. Christ, I could have seen that a mile off. In fact, he saw that a mile off. A decade ago, he had a conversation (that he regularly cites) with my uncle. My uncle said that the government wouldn't take his money because he wasn't rich. My father asked him to define "rich".

Given that the average Westerner has approximately three fifths of five eighths of bugger all saved for retirement, and many governments have unfunded liabilities in the twelve or thirteen digits (estimates for the U.S.A. range from 70 trillion dollars to 200 trillion dollars -- that's fourteen to fifteen digits!!!), anyone with a pocketful of loose change is now "rich". Of course, the really rich people have their money offshore. In historical fashion, it's always the middle class who take it in the neck, and Roth IRAs and all the rest of it are just a long con on the middle class. Bail ins a la Cyprus, etc. are also going to be the new normal.

My advice is to get your money offshore; stock up on guns, tinned food and gold; or some other such scheme where they'll at least have to give you a reach around before fucking you in the arse. Even burying all of your money in the backyard is probably going to be better than putting it anywhere within reach of the government. At least if you bury it in your backyard, the government won't be able to take it from you. Of course, it may effectively be worthless, though you could use it for kindling or toilet paper, so that's something, at least.

 

[tarquin]

Such double-dipping would be a "taking" by the government without compensation and prohibited by the Constitution. Sure, you can say that Constitutional rights are eroding and may not be present when I take money out in 50 years, but I would rather go for the bigger payout with a Roth IRA than kick myself later for using a Traditional IRA.

 

[Switch]

Sheesh, so apparently the strategy to get rich is to invest 1k every month into the S & P 501 starting at age 20. Assuming 10% / per you'd have 6.4 million at age 60, and 47 million at age 80, and 130 mill at 90. If you up your monthly contributions to 1.5k, at age 60 you'd have 9.6 mill, and then of course by age 90 you'd be at 195 million.

If you go 2k per month, at age 60--12.7 mill, 90--260 million dollars.
If you go 3k per month, 60--19 mil, 90--390 million dollars

Use this tool: https://www.investor.gov/tools/calculators/compound-interest-calculator#.U0NXOvldWSo

Why are there not more ultra-high net worth individuals? If you save just a little bit, by 65 it's practically impossible to not be a millionaire...

EDIT- if you put away $100 per month starting at age 20, your account would be worth over a million by age 65, at 10%

 

[lavidaloca]

Sheesh, so apparently the strategy to get rich is to invest 1k every month into the S & P 501 starting at age 20. Assuming 10% / per you'd have 6.4 million at age 60, and 47 million at age 80, and 130 mill at 90. If you up your monthly contributions to 1.5k, at age 60 you'd have 9.6 mill, and then of course by age 90 you'd be at 195 million.

If you go 2k per month, at age 60--12.7 mill, 90--260 million dollars.
If you go 3k per month, 60--19 mil, 90--390 million dollars

Use this tool: https://www.investor.gov/tools/calculators/compound-interest-calculator#.U0NXOvldWSo

Why are there not more ultra-high net worth individuals? If you save just a little bit, by 65 it's practically impossible to not be a millionaire...

EDIT- if you put away $100 per month starting at age 20, your account would be worth over a million by age 65, at 10%

Because incomes weren't what they are today 40 years ago. A quick browse of the internet and I found this "According to a 1987 Harvard study published in the Economics of Education Review, the average starting salary of a Michigan teacher was $7581 in 1970 - See more at: http://inequality.org/invisible-recession/#sthash.doqDL74e.dpuf

A thousand dollars a month would be more than most peoples entire incomes. While a 3 or 4 million dollar retirement may seem huge to a 20 year old right now. It probably won't be all that huge when you are 65. Based on fooling around with inflationary calculators I'd guess 4 million dollars would be worth about a 1/4 of what it is today 45 years from now.

You have to remember how many people really even had enough income to invest 1k+ a month back 40 years ago. In todays world we'd probably say 250k a year is a "great" retirement. However 40 years from now that number will probably need to be multiplied by a factor of 4 or 5 to have a "great" retirement. If you want to withdraw 250k a year generally speaking from what I've read it seems you should have about 6 million invested (4%). In order to have the same retirement 45 years from now that would likely require 25 million invested.

The thing we can take advantage is of moving to other countries where for the fraction of the cost we can have a great retirement income. Being 40 or so years away from retirement myself, I certainly wouldn't want to retire with 1 million in the mid 2050s. That will like be similar to retiring with 250k today, something I certainly wouldn't do.

People should be doing everything they can to invest atleast $1,000 a month even if they don't plan on retiring because later down the road they'll be able to buy a lot more with it than they could in the present.

 

[Feisbook Control]

Such double-dipping would be a "taking" by the government without compensation and prohibited by the Constitution. Sure, you can say that Constitutional rights are eroding and may not be present when I take money out in 50 years, but I would rather go for the bigger payout with a Roth IRA than kick myself later for using a Traditional IRA.

For real? Did you miss the entire point of my post? I'm not advocating a traditional IRA over a Roth IRA.

Dude, what the hell is the Constitution? People act like it's a law of physics or something. It's a piece of paper. It might contain a lot of very good ideas, but it's still a piece of paper that can, and is, ignored. Between governments and corporations on the one hand, or plenty of women/liberals/minorities claiming it's irrelevant because it was written by dead, slave owning, white males, what the hell is the Constitution?

"But...but...but you can't do that because of the Constitution!"

They have and they will. Wake up and smell the coffee. Fight or flight. Standing still and waving a piece of paper at a wolf makes you somebody else's meal. You have to get past this quasi-libertarian idea that everyone is a rational, moral agent. Most people don't give a fuck. If you have something they don't, then that's moral justification for taking it from you, regardless of how you acquired it, because their time horizon is about five minutes into the future and five minutes into the past. Therefore, all they know is that you have it and they want/need it. That's as complicated as it gets. We live in an age of rule by man, not rule by law. Maybe some day, rule of law will return (if it has ever really existed). In the meantime, don't become these guys:

 

[Switch]

I didn't take into account inflation, correct. But 40 years ago , 100$/month was very doable for a lot of people. I guess what I'm saying is there really isn't an excuse for not having the equivalent of 1 million 2014 dollars at retirement.

 

[Switch]

I didn't take into account inflation, correct. But 40 years ago , 100$/month was very doable for a lot of people. I guess what I'm saying is there really isn't an excuse for not having the equivalent of 1 million 2014 dollars at retirement.

That is, of course, barring any sort of catastrophic Great Depression-like meltdown during your working life or during retirement.

EDIT: apparently I'm a beta orbiter now. wooot