In this article, we’ll cut through the noise and dive into a specific example to answer the question: is investing long-term in index funds enough to outpace debasement and generate wealth?
If you’re investing huge chunks of money every year, then investing strictly in low-cost index funds for the long-term is a very smart strategy. But let’s take a close look at this traditional investment strategy and see how long it actually takes for the average person to achieve financial freedom.
Historically, major stock indices like the Dow Jones and S&P 500 have averaged an annual return of about 10.5%. Inflation has actually averaged 4.01% since 1965. Whoops, a little higher than the 2% target. But let’s be generous and say that you’re outpacing the rate of inflation by about 7% annually over the long run if you invest in index funds.
Let’s say you have excess capital and can invest $5,000 after taxes and living expenses every year for 10 straight years. This is not easy for the average person. We’re assuming you invest the money into a stock index like the S&P 500 or Nasdaq and average 11% annual growth per year over this 10-year period. We’re also assuming that you have steady hands and don’t ever panic sell to incur taxes despite the inevitable ups and downs. Just a few missteps would drastically reduce the result in this hypothetical example.
So, you would have invested a total of $50,000 ($5,000 per year for 10 years). At the end of those 10 years, the $50,000 you invested would be worth $107,004.25. Courtesy of the fine folks at NerdWallet, we find that if you execute this perfectly for 20 years, you’d have $396,637.28. Done perfectly for 30 years gets you to $1,219,027.36.
Net Worth after 30 Years of This Strategy
If you start this strategy at, say, 28 years old and are able to execute it perfectly for 30 years straight, you’d have a net worth of about $1.2 million by the time you turn 58. Sounds pretty great, right? Let’s continue to work through this example. By the way, this also assumes you had no debt at the start of your investing period. Is this number sufficient for retirement?
According to a nationwide report by Charles Schwab in 2021, the average retirees believe they need a minimum of $1.9 million in savings to retire and live comfortably the rest of their life.
There’s an awful amount of wiggle room and certainly no exact formula for retirement savings. You’ll see all sorts of different numbers on the subject. Retirement income seems to be the most important metric. So, if we look at another report by The Motley Fool, $1.2 million in savings—using a rule called the 4% rule—would allow a couple to live comfortably for the rest of their lives with $48,000 in annual income.
Unfortunately, both numbers seem like distant fantasies once we learn that the average American has just over $140,000 saved for retirement. Seem a little high? The median 401(k) balance is actually $35,345, indicating that most people have much less saved than even the $140,000.
Is this enough for Retirement in this era of Money Printing?
But here’s the major problem with both the $1.2 million and $1.9 million figures for retirement. Either of these two figures could very well be accurate right now with today’s numbers. But what is the value of that money 30 years from now when you complete this journey? That $1.2 million in 30 years won’t be worth nearly as much as it is right now. So, this pipe dream we’re all being sold is fatally flawed. The cost of living will be so much higher in 2055 or even 2040 that neither $1.2 million nor $1.9 million will be nearly enough to retire and live on for 30 to 35 years. Not with the rapid rate of currency degradation we’ve been experiencing. Realistically, the required number could easily be closer to $5 million. It’s sad to say, but in 30 years, a two-bedroom bungalow might cost $2.5 million in rural Iowa. Pretty scary to think about.
Once you understand the game that we’re forced to play in this era of rising living costs, it becomes clear the investing only in stock index funds leaves something to be desired. In the next post, we’ll explore what the other options are and see if anything catches our attention.
Thanks for reading! If you enjoyed this, check out the other articles and don’t forget to follow me on Twitter @andrewdfarrar for up-to-date crypto content. If you haven’t already checked it out, my book, The Modern Investor, is up for sale on Amazon! It gives a much more complete and entertaining view into the digital asset market. In these crazy times, it’s never been a more important time to learn about this new asset class.