What's Wrong With Growing Rich Slowly?

  • By George Sisti, Marketwatch
  • October 03, 2014

growing rich slowly

For most of us, planning for retirement wasn't a front burner item during our early working years. Consequently, as a financial adviser I often find myself telling people, "It's never too late to start doing the right thing." For young people who are just starting their asset accumulation journey, the most valuable asset they own is time and the most powerful tool at their disposal is compound growth.

Recently, as my 27-year-old physical therapist was getting my shoulder into golfing shape, I asked her about her saving and investing habits. She confessed that she hadn't been putting a big priority on saving and investing yet — no surprise there. So I told her about my fictional friends, Stan and Ollie, 21-year-old twin brothers just beginning their professional careers, and their sister Lucy.

Getting an Early Start
Stan is the prudent brother. He knows that beginning to invest at a young age maximizes his chances of being able to retire at the time and in the lifestyle of his choosing. He starts contributing $5,000 each year to a Roth IRA. After 10 years, his contributions have totaled $50,000. Ollie is a perennial procrastinator and saves nothing during the first decade of his working years. Ollie then has a Prodigal Son moment. He realizes that he has been wasting time and squandering money long enough. So he decides to begin annual $5,000 contributions to a Roth IRA.

After making contributions for 10 years, Stan finds that the expenses of Homeownership and raising a family leave him with no money to invest. So from this point until retirement he makes no further IRA contributions.

Let us assume that both accounts yield a 7% annualized rate of return and that Stan and Ollie work for 45 years. At retirement, which brother will have the larger IRA?

Stan's contributions totaled $50,000, and when he ceased contributing to his Roth IRA it was worth $69,082. Ollie's Roth contributions amounted to $175,000. Upon retirement, Stan's Roth will have grown to $737,000 while Ollie's will be worth $691,000. Intuitively, it seems that this cannot be true.

With a 7% rate of return, an account will double in about 10 years. When Stan stops his contributions, enough years remained for his account to double three times. By the time Ollie has made $50,000 in contributions, he is 25 years from retirement and his IRA has time to double only twice. As we can see from this simple example, compound growth rewards early contributions more than later, more frequent ones.

When growing rich slowly, it's the last doubling that puts you over the top.

1 2
Tagged in: Retirement, MarketWatch
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT