Financial goals can vary widely from person to person. Some people simply want financial security, while others have more lofty goals like a beachside mansion. Neither is inherently better or worse than the other. What matters is that you set financial goals that are in line with your needs and values.
That said, the $1 million mark has long been considered a huge milestone on the way to financial freedom in retirement. That amount of money may not go as far as it did decades ago, but it's still a substantial sum, and worth aiming to achieve. And the beauty of aiming for the million-dollar mark is that it's not out of reach for many people. Time can be a great assistant.
For people looking to grow $100,000 into a $1 million retirement nest egg, the following three steps can speed up your progress.
Image source: Getty Images.
1. Invest the lump sum and let compound growth do most of the work
I'll never miss a chance to get on my soapbox and talk about how powerful compound growth is in investing. It happens when the gains you've already made on your investments -- whether through rising share prices, dividend reinvestment, or both -- earn gains of their of own. Then those gains start to accrue gains, and so on. It's a lucrative, wealth-building cycle.
If you're going to invest a lump sum, I recommend a diversified exchange-traded fund (ETF) like the Vanguard S&P 500 ETF (NYSEMKT: VOO). The S&P 500 contains most of the largest U.S. companies from all major sectors, and many view an investment in it as similar to an investment in the national economy. If you're in it for the long run, that's one of the better investments you can make.
Since the Vanguard S&P 500 ETF's inception in 2010, it has averaged an annual total return of more than 14%. The S&P 500 index has historically averaged an annual return of around 10% over the long run.
VOO Total Return Level data by YCharts.
If one splits the difference and assumes that from here, the ETF will average a 12% annual return, a one-time investment of $100,000 would take around 21 years to cross the $1 million mark, even after taking out the ETF's low annual fees -- just 0.03% of assets being managed.
Of course, nobody can reliably predict how any stock or fund will perform, and we shouldn't assume that an asset will keep delivering the same results as it did previously, but specifics aside, this illustration shows the effectiveness of letting time and compound growth do a lot of the heavy lifting for you.
2. Take advantage of the power of dividends
I always recommend people take advantage of their brokerage platform's dividend reinvestment program (DRIP). Instead of taking your dividends as cash payouts, you can use a DRIP to automatically reinvest them back into more shares of the stocks that paid them out.
Using a DRIP is a great way to double down on the compound growth effect. There's nothing wrong with taking your dividends in cash, but the amounts are generally relatively small unless you own many shares. By reinvesting dividends, you increase the number of shares you own, setting yourself up for larger cash payouts in retirement.
To see the effectiveness of a DRIP in action, let's visit the Rule of 72, which notes that, roughly speaking, if you divide 72 by the annualized growth rate of an investment, the result will be the number of years it will take that investment to double.
So, for example, an investment averaging 10% annual growth would double in about 7.2 years. Now, let's assume that this same investment also paid a dividend with an average yield of 2%. If you reinvested all your dividends in that time (bringing your total annualized returns to 12%), you could shave off around 1.2 years and double your money in six years.
Ideally, you'll use a DRIP to maximize the number of shares in your portfolio while you're building your next egg, and then begin taking cash payouts in retirement to cover some of your expenses. A 2% yield on $1 million worth of stocks would give you $20,000 in annual dividend income.
3. Adding contributions is always an option
Having $100,000 to invest is an excellent start, but you don't have to stop with that lump sum investment on your way to the million-dollar mark. Contributing more money to your portfolio on a regular basis, even in seemingly small amounts, can greatly speed up the process.
Building on our first example, where a lump sum investment of $100,000 took around 21 years to grow into a $1 million position, at an average annual return rate of 12%, here's how much time would be shaved off that process by investing more money consistently each month.
Additional Monthly Contributions | Years Until $1 Million |
|---|---|
$250 | 19 |
$500 | 18 |
$1,000 | 16 |
Calculations by author. Rounded to the nearest whole year.
Investing $100,000 is a fantastic start, but don't stop there. Keep contributing to your portfolio consistently and let your investments grow.
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Stefon Walters has positions in Vanguard S&P 500 ETF. The Motley Fool has positions in and recommends Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.
