One of the complications of saving for retirement via investment vehicles is that it takes so long to reach a point where it seems like the market is actually working for you.
You’ll contribute for years, maybe even decades, before you hit what’s deemed as the crossover point in the popular personal finance book Your Money or Your Life, or the point where your investment gains start outpacing the contributions you make yourself. And if you don’t think your investments are paying off, that can make it difficult to save consistently throughout your career.
Once you hit it, though, you’ll see all of your diligent saving, quite literally, pay off.
Here’s a simplified example of how it works from Real Deal Retirement’s Walter Updegrave: You start off making $45,000 per year, with annual raises of two per cent. You contribute 10 per cent of your salary to a retirement fund, earning a six per cent annual return. At first, things are slow:
The first month, in this example, you contribute $375 to your account, which racks up a grand total of less than $2 in investment gains for the month. Even after you’ve socked away a full year of contributions, or $4500, your investments are kicking in only a bit more than $20 a month to your account balance, or only about 5% of the total amount you contributed that first year.
It doesn’t seem like much, and in fact can be a bit demoralising. But slowly, your returns compound, and you eventually hit a point where you’re earning more in gains than you’re putting away each month (emphasis mine):
At the end of five years, your investment gains amount to roughly a third of the monthly amount you’re contributing on your own.
By Year Eight, your investment earnings equal more than half of your monthly contributions.
Then, a little more than 13 years into this regimen, you hit that crossover point, when your investment gains start to exceed the amount you’re stashing away from your salary.
That’s the sweet spot. “Your portfolio is now hitting on both cylinders, thanks to significant contributions not only from your own regular savings, but also from investment gains,” writes Humble Dollar’s Jonathan Clements. “Thereafter, your nest egg’s growth is explosive.”
(Per Updegrave, at the 13-year mark above, your investments would be more than $500 a month, while you’re contributing around $485.)
Of course, it isn’t just steady upward growth. There’s inflation to contend with, as well as salary increases, the rate of return on your investments, and your ability to save consistently over time. You’ll have setbacks, just as any investor will. But you’ll recover, and “scoop up shares at bargain prices,” as Clements notes.
And, as Updegrave writes, reaching the crossover point shouldn’t be your main investing goal for retirement; rather, saving consistently over a long period of time so you have enough to retire comfortably (perhaps even as long as 30 years) should be your aim.
So yes, investing is a long game, but remembering that crossover point can help you keep the faith when markets get rocky and during the first few slow-building years.