No matter one’s age, people can have trouble motivating to save for retirement. The most common mistakes that investors make often depend on their life stage and they frequently relate to human behavior. Simply put, certain behaviors can impede good choices, and our human tendencies can derail even the best intentions. That makes it vital for all investors to try to understand the human mind when it comes to retirement readiness.
She is a millennial, recently out of college, in her mid-20s and working her first—and not particularly well-paying—job.
When there are fun things to buy and college loans to pay off, it’s only natural to want to put off saving. But spending a little money on the occasional extravagance and saving for retirement do not have to be mutually exclusive.
The Expert Advice:
Those prone to procrastination should take note: Thanks to the exponential growth of compound interest, saving in the early years can make a huge difference in the long run, and can potentially add thousands of dollars of annual income in retirement.
“The hardest thing for people when they first start saving is that they don’t see results right away,” says Ben Carlson, Director of Institutional Management at Ritholtz Wealth Management, author of the book A Wealth of Common Sense: Why Simplicity Trumps Complexity in Any Investment Plan and founder of the website A Wealth of Common Sense.
Earn 10 percent on $1,000, Carlson notes, and you have an extra $100—not a life-altering amount of money. Or is it? “The usual line people use is, ‘I’ll just wait to save until I’m ready later,’ but you can save a much smaller amount if you start earlier and let it build on itself,” he says. Like a snowball that gets larger and faster as it rolls downhill, the real gains come as compound interest builds momentum. Or, as Carlson puts it, “It stacks up over time, but it does take time.”
Over a decades-long time horizon, the results are powerful. While future performance can never be guaranteed, historic data bears this out. Since 1926, the S&P 5001 has been in positive territory over the course of every 20-year span. And even in its worst 30-year stretch (1955-1984), its annualized return came out to 7.8 percent. But thanks to compound interest, that initial investment would have grown by just shy of 240 percent after inflation.
The results are so powerful that an early investor who saves for 10 years can actually out-earn someone who saves for four times as long. How? It all depends on when the savings occur.
Consider the example of a person who invests $5,000 a year from age 21 through 30, and never saves again. Her friend saves nothing in his early years, but invests $5,000 a year from age 31 through 70. Both earn 8 percent annual returns. Believe it or not, the early saver will have 22 percent more money when she retires at age 70 than her procrastinating friend.