How to Take Advantage of Compound Growth
Saving earlier can help give you the power of compound interest on your savings
Saving money can be a challenge, but starting early can help.
Did you know that with a regular savings plan in place, and an early start, you could be much further ahead when it’s time to consider retirement?
That’s because when you start saving early, your money has more time to grow and benefit from compound growth. Compounding can help your money grow, in most cases, far beyond the amount you originally invested. So, how does it work?
Compound growth is similar to compound interest. With compound interest you’re earning interest on interest. You earn interest on the money you put in at the start, as well as the money you add later, plus on all the interest that collects over time. This gives you a larger total amount to earn future interest on, leading to even more growth. Over time, you have a powerful recipe to help you grow your money.
The idea of compound growth is like growing a forest of trees. The forest can grow in two ways – trees are planted by hand (like your regular investments), while others may grow on their own through seeds that fall from larger trees (like compound growth on your money). In time, a few trees planted early can grow into an entire forest without much effort.
To understand how this could affect your savings, consider the journey of $240,000, saved two different ways. If you save $500 per month with an annual return rate of six per cent compounded monthly, beginning at age 25, you would have $1,000,724 at age 65 1 . Now, if you tried to catch up on your savings, contributing $1,000 with the same annual rate of return beginning at age 45, you would only have $464,361 at age 65 2. Under both scenarios, you’ve invested the same amount with the same growth rate, but in the first scenario, your money has twice as long to grow, and you end up with more than twice as much.
Start saving early
The benefit of saving early and using the power of compounding is it doesn’t take a lot of money to start. Relatively small amounts invested regularly, especially when you are young , can make a significant difference in the total size of your savings down the road. Those small amounts can be the difference between being confident with your investment success and having to worry about it later in your life. It can be as easy as sitting back while your money does all the work and grows into something much bigger.
The strategy for compounding:
Invest early – the longer your money is invested, the more time it has to grow. When it comes to compounding returns, time is an advantage.
Contribute regularly – regardless of the amount – the important thing is to start and be consistent. Even small contributions made each month will grow. You can increase your contributions as your financial situation changes throughout your life.
Don’t take money out – as your savings grow and earn compound returns, the gains made through compounding will also help you build your wealth.
Whether it’s through a registered retirement savings plan (RRSP) or a tax-free savings account (TFSA), saving early and saving often can give you a head start on planning for retirement. And that planning may allow you to reach your financial goals sooner.
The information provided is based on current laws, regulations and other rules applicable to Canadian residents. It is accurate to the best of our knowledge as of the date of publication. Rules and their interpretation may change, affecting the accuracy of the information. The information provided is general in nature, and should not be relied upon as a substitute for advice in any specific situation. For specific situations, advice should be obtained from the appropriate legal, accounting, tax or other professional advisors.
A description of the key features of a segregated fund policy can be found in the information folder and important information about mutual funds is found in Fund Facts. Please read these documents carefully before investing.
Mutual funds are not guaranteed. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund and segregated fund investments. Mutual fund and segregated fund values change frequently and past performance may not be repeated.
Any amount that is allocated to a segregated fund is invested at the risk of the policyowner and may increase or decrease in value.
1 Assumes $500 invested on the first day of every month over 40 years, with a 6% annual rate of return, compounded monthly. The rate of return does not take into account segregated fund and/or mutual fund fees. 6% annual rate of return is based on historical S&P/TSX composite total return data. This example is for illustrative purposes only. Past performance is not an indicator of future performance.
2 Assumes $1,000 invested on the first day of every month over 20 years, with a 6% annual rate of return, compounded monthly. The rate of return does not take into account segregated fund and/or mutual fund fees. This example is for illustrative purposes only. 6% annual rate of return is based on historical S&P/TSX composite total return data. Past performance is not an indicator of future performance.
