When you fantasize about getting rich, how do you see it happening? Maybe a relative leaves you an unexpected inheritance. Maybe you'll win the lottery. Or maybe you'll invest in the "next big thing" like the people who bought Microsoft in the 1980s.
Source: Wikipedia.
However, there is a way to get rich that is even easier than any of these, and is definitely more of a sure thing. It simply involves using the most powerful investing tool you have at your disposal: time.
Compounding investment gains over time can make you rich
Compound interest has been referred to as "the eighth wonder of the world," and for good reason. The combination of investment returns and time is the most powerful financial tool available to investors. In other words, if your investments are generating good returns, it's only a matter of time until your financial goals are realized.
Let's say you can afford to save $5,000 per year. If you were to simply take the money and put it in savings, after 30 years you will have built up your account to $150,000. Not too shabby.
However, if you invest that money and earn returns that simply match those of the S&P 500, which averaged a total annual return of 9.4% over the past two decades, you would end up with a nest egg of more than $800,000, or more than five times as much as if you kept your savings in cash.
The longer the time frame, the better the compounding effect. For example, over 40 years, the money could grow to more than $2 million.
The right stocks can make it easy
Not only do high-quality dividend growth stocks have relatively low volatility, but over the long run they tend to outperform the market. Ironically, many of these companies are considered "boring" by lots of investors, such as Johnson & Johnson (JNJ -1.15%), Colgate-Palmolive (CL 0.47%), or Procter & Gamble (PG -0.03%).
That 9.4% average return from the S&P 500 over two decades is definitely not a bad return when compared to virtually any other class of assets. However, all three of these "dull" companies beat this return handily. Johnson & Johnson averaged a total return of 12.3%, Colgate-Palmolive averaged 13.1%, and Procter & Gamble averaged 10.5%.
While these returns might not seem like that much higher than the S&P, check out what a difference that improvement can make over an extended period of time.
What to look for
A few things are desirable in long-term investments, but the most important is a steady track record of growth and dividend increases over time.
A good place to start your search is with the "Dividend Aristocrats," which are stocks that have increased their dividend annually for at least 25 years. All three of the companies I mentioned earlier are in that category, and dividend.com maintains an excellent list of all the others.
Another thing to look for is low volatility, which can be found relatively easily. The "beta" number is included with many stock quotes, and it's basically a way of describing how volatile a stock is compared to the rest of the market.
A beta of less than one means a stock is less volatile than the average S&P company, and a beta of more than one means a stock is more volatile. Simply put, the lower the stock's beta, the less you're going to need to worry about it along the way.
Finding stocks with a combination of strong dividend growth and low volatility can create a winning portfolio that will withstand the test of time and create excellent long-term wealth. Perhaps even more importantly, these stocks will produce consistent growth that will give you peace of mind.
