Warren Buffett recently released his annual Berkshire Hathaway letter. You can read the whole thing here. I want to focus on a few juicy bits from page 13 of the letter titled “The American Tailwind”. Mr. Buffett spoke of his first investment of $114.75 at the age of 11 (he started hustling at a very young age, but that’s a topic for another time). The year was 1942. 77 years ago. What stood out to me was his analysis of how much that $114 could have grown to in an S&P 500 index fund over that time (if one existed).
If my $114.75 had been invested in a no-fee S&P 500 index fund, and all dividends had been reinvested, my stake would have grown to be worth (pre-taxes) $606,811 on January 31, 2019 (the latest data available before the printing of this letter). That is a gain of 5,288 for 1. Meanwhile, a $1 million investment by a tax-free institution of that time – say, a pension fund or college endowment – would have grown to about $5.3 billion.
Let me add one additional calculation that I believe will shock you: If that hypothetical institution had paid only 1% of assets annually to various “helpers,” such as investment managers and consultants (in other words “unnecessary investment fees”), its gain would have been cut in half, to $2.65 billion. That’s what happens over 77 years when the 11.8% annual return actually achieved by the S&P 500 is recalculated at a 10.8% rate.
His $114 would have compounded into $600,000. Think about that! We’re not talking about starting with $114 and adding a $100/month or $1000/month. No, we’re talking about compounding only the $114. That takes my breath away. That’s astounding, even if over 77 years (which is just about a lifetime).
And $1,000,000 would have grown to $5.3 billion… yes, billion with a “b”.
And only a 1% yearly investment fee would have cut that return by half. That should take your breath away, too! Didn’t know just a 1% fee would matter that much?
Ignorance is… expensive.
So what does the Berkshire Hathaway letter have to do with ignorance? Glad you asked. I want you to take one thing away from today’s post:
Both good, and bad, financial decisions compound over your lifetime. Minimize the bad ones.
Sometimes what you don’t know can hurt you. The world, in general, is very ignorant of money. And the world lives quite blissfully in their ignorance! People spend-and-spend and consume-and-consume for years… until it catches up with them, usually around the age of 50 or 60. I’m not going to allow you to live your life ignorantly of your financial decisions. Sorry, not sorry.
While I worked hard for many years to have a successful software company, I never really understood the basics of Wall Street. There were many times over my life I made really bad investment decisions — decisions that, looking back, compounded negatively for me.
I always thought of Wall Street as a place where people bet on companies and it was all basically gambling. While there are people who use Wall Street that way, there are simple, safe ways to invest and make money with stocks. Here is a post about the basics of stocks. Today, though, let’s look at how “tiny” money decisions compound over a lifetime. We’re going to look at what just ONE $5000 decision compounds and how ONE $5000 decision PER YEAR compounds.
Let’s look at one (bad) $5000 decision first.
One (bad) $5000 decision
$5000. A lot of money to spend on one thing, but kind of small considering someone’s yearly income. People loosely make $5000 money decisions all the time. Maybe it’s a yearly $5000 vacation (or maybe it’s two $5000 vacations instead of one). Maybe it’s only $5000 more per year for car payments (or a 2nd car). Or a house or rent payment that costs only $400 more per month (that totals ~$5000/year). It’s easy to make a “small” $5000 decision. You could even add up “random wastes” of money between the ages of 20 to 25 and come up with $5000 total.
Here’s what one $5000 decision means over 40 years:
There are A LOT of 65 year olds who wish they had $100K to $400K saved. Did you know about 30% of 65 year olds have ZERO SAVINGS? Yes, zero with a capital NOTHING. How important does that ONE $5000 decision look now? The median savings for 65 year olds is only $125K! How would an “extra” $100K to $400K feel to them now? Again, I feel the need to “beat a dead horse” here… we’re talking about ONE $5000 decision in your early 20’s.
So what happens if you make one (bad) $5000 decision PER YEAR over a lifetime?
One (bad) $5000 decision per year
Let’s look at what a simple yearly $5000 decision means over a lifetime. Again, I have to repeat this… we’re only talking about spending $400/month more on anything. Maybe it’s a yearly $5000 vacation (or maybe it’s two $5000 vacations instead of one). Maybe it’s only $5000 more per year for car payments (or ~$400/month for a 2nd car). Or a house or rent payment that costs only $400 more per month (that totals ~$5000/year). It’s easy to make a “small” yearly $5000 decision. Here’s what one $5000/year decision means over 40 years:
$1M to $4M! That’s a lot of dough. It seems impossible to save that amount of money until you look at how just $400/month over 40 years compounds.
There’s no excuse for people not to have more money saved. None. You can come up with as many excuses as you want. Is there ANYONE who has a valid excuse? Sure, but not you. Heck, I can even get upset with myself for not having even more when I look at this math.
We all live in such a consume, buy-what-feels-good world. Don’t worry about later. Enjoy now. Yes, enjoy now, but it doesn’t always have to cost money. I know 65 seems like a long time away for most of you — it’s not. And it’s a fact that most of you will have 20 to 30 years to live AFTER you reach 65. You don’t think that’s a lot of years? Try this… try SUBTRACTING 20 to 30 years from your current age. How old were you? Not born yet? 5, 10, 20? 20 to 30 years is a LONG time to live with little-to-no options to make more money.
Below is a picture of famous actor, Gene Hackman, buying an e-bike in 2018 at age 88. That’s what 88 can look like if you have money. It’s not lying in your death bed waiting for the grim reaper. Doesn’t he look happy?!
I don’t believe there’s a 65 year old alive with low-to-nothing savings who couldn’t look back and remove ONE $5000 decision or multiple $5000/year decisions. $400/month doesn’t seem like that big of a deal until you compound it over a lifetime. Saving now to have money later is a gift… a gift to your future self.
You’ve been warned. You can no longer claim ignorance in your financial decisions. Please, surprise your future self with your financial thoughtfulness now.
The two greatest enemies of [investors] are expenses and emotions.John C. Bogle
Saving in your 20’s, 30’s, 40’s, and 50’s is a gift to your future self.Mr. Hobo Millionaire