Rocket Propelled Stock Returns ?
It’s time to harness what Albert Einstein called the 8th wonder of the world, compound interest! I’m going to cover how to get it and how to keep it, because while most long term investors believe their money is compounding in stocks, nine times out of 10 it isn’t. If it were automatic, everyone would be billionaires! In reality, the compound effect is extremely hard to maintain. I want to show you that it can be done to a good extent…
Simple Interest ?
You put down your invested money (e.g. $1000), and every year you can expect a return back on that invested money (5% of $1000=$50). That return is called simple interest.
Compound Interest ?
You put down your invested money (e.g. $1000), and every year you can expect a return back on the mounting overall earnings as a dollar sum (5% of $1050=$52.50). That return is called compound interest which gets stronger every year.
Compound Effect Kicks in Between 30 and 50 Years ⌛
So, half a life-time of patience is required before you enjoy the benefits. However, the compounded returns get really out of hand if you can make it that long and so you’ll be well rewarded for your patience. Warren Buffett’s net worth only started to bubble around 30-50 years after his investing career begun. Here’s why;
The Compound Effect Works on 3 Conditions
You don’t take dividends.
When a business pays a dividend, the money leaves the business and lands straight on your lap. You’re taking money out of the compound machine if you take dividends. Reinvesting it for the same rate of return or better compared to where it came is a challenge, and automatic reinvestment with a DRIP scheme is costly and blind to the stock price.
You make positive and stable returns.
Obviously, stocks may spend a large part of their early lives in our portfolio in the red and with volatile prices. That doesn’t matter. However, the profits underneath that are truly intrinsic to the business? They matter. They need to be stable and not suffer any huge calamities. Read up on dispersion of returns, here.
You keep your costs low.
Anything in your investing life that’s a yearly percentage will compound, be it a gain, loss, or cost. In lesson 2, I outline all the costs and recommend Firstrade as a broker for US Citizens to keep their fees low.