I recently had a discussion with a coworker about saving and retirement planning. She is a 32-year-old single female. She does well for herself, drives a Mercedes-Benz, and owns several Louis Vuitton bags.
As we continued our discussion on the retirement benefits offered by our company, I asked her how much she sets aside in her 401(k) as a percentage of her income.
Her answer? Two percent.
I probed further, asking her why she didn’t set aside at least the minimum for the company match.
She didn’t have an answer.
I then asked her if she invests in a Roth IRA or other IRA outside of our 401(k).
Her answer? No.
Though not unusual, I found her answers troubling. It troubled me that she is not aware that now is the perfect age to save for retirement. It troubled me that she doesn't know the basics of retirement planning. It troubled me that she's not alone.
Retirement planning and the basics of personal finance are not taught throughout the public school system or in most colleges. The stock market just hit new highs this week, but those not in the game can’t reap the rewards. Thankfully, I learned about the beauty of compound interest at a very early age.
I have always been strong in math and recognized the power of the exponential growth of compounding. I not only noticed this as a mathematical concept, but realized that this is true for investing.
For example, if you invest $1,000 and expect an annual return of 10 percent, your balance at the end of the year will be $1,100. Because of compound interest, your balance at the end of the second year will be $1,210. I just earned interest on my interest! Because of this phenomenon, I poured money into retirement vehicles immediately out of college — more than 11 years ago.
Over the years, I’ve done some experimenting. Early on, I invested heavily in retirement accounts and invested any leftover money in individual stocks. As time went on, I’ve migrated to investing extra money in ETFs.
The market has gone through ups and downs over the past 11 years, but through it all, I kept investing aggressively. As you can tell by looking at any historical chart, the overall trend over the past 11 years in the stock market has been positive. Anyone, who has avoided the market or attempted to time the market has missed the boat.
There is no guarantee that the trend will continue into the future, which is why classic retirement planning wisdom says you should change your asset allocation as you age.
Eleven years ago, I had a negative net worth. My wife graduated 11 years ago as well, and also came out with a negative net worth. We came out of school with no assets and a lot of student loan debt.
Eleven years later, we have a net worth of more than $1.3 million. I attribute all of it to living below your means, investing the rest aggressively, and relying on the beauty of compound interest.