We all want to get rich but obviously not everyone achieves it. While it would be naive to say "getting rich is easy", by utilising the following steps it certainly is achievable.
The chief economist of AMP Limited (ASX: AMP), Dr Shane Oliver, penned an article earlier this year titled: "The power of compound interest – an investor's best friend". The article outlined a process to achieve a comfortable retirement; importantly this process should be achievable for many Australians.
To begin with, investors need to acknowledge that the key to growing wealth is to compound earnings.
Working through a practical example can highlight the point…
Imagine you can save $5,000 per year over your working life. From a standing start – let's say at the age of 25 – you begin setting aside $5,000 each year and investing it in the stock market perhaps in a listed investment company (LIC) with a track record of solid performance such as such as Australian Foundation Investment Co. Ltd. (ASX: AFI), or via a market-beating fund managed by the likes of Magellan Financial Group Ltd (ASX: MFG).
Taking a conservative outlook, let's assume you are able to achieve a 7% return per annum (pa) on your investments. The maths is quite straight forward – an investment plan committing $5,000 every year for 40 years at a return of 7% pa will grow –thanks to the beauty of compounding – into $998,176 by the time you are 65.
Who doesn't want to be a millionaire!
There are a few key takeaways from this example:
First, it takes time to build wealth. The earlier you start and the longer you allow your wealth to compound the better.
Second, compounding is a must – that means not drawing an income or taking any money out of your portfolio and reinvesting all your profits too.
Third, you must spend less than you earn so that you can regularly add to your investment portfolio.
Fourth, the average annual return achieved matters and can make a big difference. While 7% was used in this example, a review of the returns achieved by successful long-term investors shows that higher returns are possible.
Taking the time to carefully construct a portfolio that will maximise your returns can make a huge difference to your wealth.
