The Importance of Investing Early and Often (2024)

Summary:

Ensuring you have enough money for retirement might not be as important in your 20s and 30s as it is in your 40s and 50s. However, any progress you make in your early years can have an enormous impact on the size of your nest egg come retirement. Check out this article from our Resource Center to learn more about compounding interest and why investing early and often is the best strategy for meeting your retirement goals.

The amount of money you’ll have available in retirement depends greatly on how early you choose to begin investing and how much money you put toward retirement each month.

For this reason, starting to save for retirement in your 20s or early 30s—and having a plan for regularly contributing to your retirement accounts—is the best way to ensure you’ll have enough money to retire on schedule.

In this article, we’ll highlight the effect that compounding interest can have on your retirement funds. We’ll also explain why it’s so important to begin saving for retirement as early as possible.

Note, however, that the numbers we use in this article are for informative purposes only and do not imply a specific outcome for your retirement portfolio.

If you have any questions about investing or want to discuss your strategy, please take a moment to reach out to an experienced professional who can help you better understand what to expect out of your retirement savings.

Start with your retirement needs in mind

All discussions on investing for retirement start with one core question: how much money do you need to retire?

Financial experts will throw out several rules of thumb to quickly answer this question (“somewhere close to a million dollars” or “12x your annual income”). However, the answer generally comes down to one very simple equation:

Money Needed for Retirement = Expected Annual Expenses in Retirement / 4%

To expand on this formula a little, imagine for a moment that you expect to spend around $25,000 a year in retirement.

Your income to cover these expenses can come from several sources (such as Social Security or a part-time job). However, for the sake of this example let’s imagine that you want to fund your retirement solely from your retirement savings.

If you divide your $25,000 in expenses by 4%, you’ll see that you’ll need $625,000 in your retirement accounts to fund your retirement.

Assuming you begin saving $500 a month in an account that doesn’t generate interest, and you begin saving at the age of 25, it would take you around 104 years to reach this saving goal (not accounting for inflation).

At a saving rate of $1,000 per month, it would still take you 52 years to reach your goal (again, not accounting for inflation).

As you can see, simply saving money in a normal savings account would make it nearly impossible to reach your retirement goals on time.

Not only will you be far into your retirement by the time you reached your savings goal, but these estimates also don’t account for inflation which could potentially drain around 3–4% of your account’s value every year.

It’s critical that you put your money into retirement accounts that grow over time at a rate that’s higher than the rate of inflation.

This can help you both retain the value of your money over time and accelerate your retirement calendar by having your money work for you over your lifetime.

Understand the importance of compounding interest and risk tolerance

With this core issue in mind, the single best thing you can do to ensure you have enough money to retire comfortably is to invest early and often.

Specifically, this strategy allows you to take advantage of the effects of compounding interest and higher-risk strategies without having to worry about short-term swings in your retirement accounts values.

Compounding interest is a financial term for when you reinvest any interest gained on an account back into the account, leading to a cycle of gains over time. In this system, not only does your initial investment generate earnings, but your reinvested interest will also start working for you over time.

Put another way, a dollar saved early in your life is worth more in retirement than a dollar saved later in your life because it would generate more interest over time.

You can then combine the effects of compounding interest with a slightly riskier portfolio to further accelerate your account growth.

Notably, compound interest is most effective when you put your money into investments that generate more gains and interest. For this reason, it’s smart to take advantage of a strategy weighted more toward stocks when you’re young and have a much higher tolerance for risk.

After all, compound interest will generate significantly more money over the life of a retirement account when you can expect an average of 6% growth (a riskier strategy) every year rather than 3% growth (a less risky strategy).

A quick example of compounding interest in action

For example, let’s assume you have $1,000 in a retirement account that grows at a rate of 5% every year.

At the end of the first year, the account would be worth $1,050 after applying the annual interest. At the end of the second year, the account would total $1,102.50, an increase of $2.50 over the prior year.

While this may seem like a small amount at first, remember that the effects of compounding interest are most apparent when you look at the account over a longer period.

For example, if you look at a retirement account with $1,000 that gains $50 every year and compare it to a retirement account that grows 5% every year, you can see just how much of a difference compounding interest can make over time:

$1,000 + $50 every year — After 10 years, this account would be worth $1,500. After 30 years, this account would be worth $2,500.

$1,000 + 5% every year — After 10 years, this account would be worth $1,628.89. After 30 years, this account would be worth $4,321.94.

In this example, compounding interest, by itself, far outpaced the account that simply saved $50 every year.

Importantly, most of this increase comes from the addition of each prior year’s interest to the interest gained the next year.

Put another way, compounding interest tends to accelerate growth over time, resulting in larger gains the longer the money remains in the account.

Taken together, you can see how the effects of compounding interest in an account with a riskier distribution of assets (usually stocks that average an annual growth of 6%) can make it easier for you to reach your retirement goals.

Remember, the longer your money works for you, the more it’ll be worth in retirement.

In fact, for every 10 years you wait before you begin saving for retirement, you’ll need to invest around two to three times as much money per month to catch up to your peers who began saving earlier.

If we return to our original example, let’s assume that you’d need around $625,000 to cover your expenses in retirement. To meet this goal, you begin to invest $500 a month into a retirement account that grows 6% every year.

If you begin investing at age 25, you’d have $928,572 in your account at age 65, easily meeting and surpassing your goal.

However, waiting until age 30 means your account would only be worth $668,609, slightly surpassing your goal, but not leaving much room for emergencies or other unexpected expenses.

On the other hand, let’s assume you invested in a less risky strategy weighted more toward bonds and other safer options that generates an annual return of around 4%.

Using the same numbers as above, starting to invest at age 25 would result in an account worth $570,153, while investing at age 30 would result in an account worth $441,913.

As you can see, investing as soon as possible—and taking advantage of a riskier, stock-based portfolio when you’re young—is central to meeting your retirement savings goals.

For this reason, it’s strongly recommended that you begin saving as early as possible to give yourself the longest possible window for your money to grow over time.

Start saving for retirement today

Saving for retirement as early as possible provides a longer window for compounding interest to accelerate your account’s growth.

Financial models consistently show that saving $500 a month for 40 years will result in several hundreds of thousands of dollars more in your retirement account once you hit 65 than saving $500 a month for 30 years.

With so much money at stake, it’s easy to see why investing early and often is such an important aspect of a strong retirement investment strategy.

As the old saying goes, the best time to invest was yesterday, the next best time is today. Taking advantage of compounding interest is the best and fastest way to reach your goals and ensure you have the resources you need for retirement.

Finally, it’s important to make sure you put your savings in the right retirement accounts to take advantage of all the benefits we’ve listed above. Normal savings and checking accounts won’t generate the interest you’ll need to meet your retirement goals.

Instead, you should look into dedicated retirement savings accounts such as IRAs or take advantage of the investing capabilities of an HSA account to accelerate the growth of your retirement nest egg.

If you have any questions about saving for retirement or investing in general, please don’t hesitate to give us a call at 800-236-8866, or schedule an appointment at any of our Associated Bank locations.

Our local banking professionals would be happy to walk you through your options for finding a retirement investment account that works for you.