You may not be able to wave a wand and have your money instantly grow exponentially, but you can use investment strategies that have proven to work over time. When used the right way, these three magical strategies can help propel you toward accomplishing your financial goals.
1. Start early and let time work
It may not seem like a "magical" investing strategy, but starting early is the key to unlocking the magic that is compounding. It's one thing to earn a return on your investments, but real growth begins when that return begins to earn a return on itself -- and that's what compounding is.
To really see the power of compounding, let's imagine a scenario where two people make a one-time $10,000 investment in an index fund that returns 10% annually, with one person removing the profit each year. In 25 years, here's how the investments would stack up:
| Spent Gains Each Year? | Total Invested | Total Earned | Account Balance After 25 Years |
|---|---|---|---|
| Yes | $10,000 | $25,000 | $10,000 |
| No | $10,000 | $98,300 | $108,300 |
Calculations and chart by author.
In this scenario, you can see that the only thing that separated the two investors was that one took out profits each year instead of giving them a chance to earn further returns. That alone made a difference of over $73,000. If you really want to grow your money and let it do some of the heavy lifting for you, you should not underestimate the power of time.
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2. Let dividends lead you
Younger companies will ideally reinvest their profits into the company to continue with growth. But older, more established companies that have passed the point of hypergrowth need a way to entice investors since their stock price won't likely see exponential growth. Dividends are a way for companies to reward current and attract new investors. With the right dividend-paying stocks, dividends can make up a large portion of an investor's total returns and be a reliable source of income in retirement.
Let's imagine you've been making steady investments your whole career into a dividend-focused fund with a 2.5% dividend yield and managed to accumulate $1 million. In that case, you could expect $25,000 yearly just in dividends. This scenario isn't farfetched, either. You can accumulate over $1 million by investing $10,000 yearly for 30 years with 8% annual returns -- and that doesn't include potentially reinvested dividends earned during that time.
3. Take advantage of tax-favored retirement accounts
One magical way to grow your money is to make sure a lot isn't going to taxes. Rarely will you make money and not have Uncle Sam waiting for its cut. Whenever you sell an investment in your brokerage account, you'll owe taxes on any profits you made. If you've held the stock less than a year, you'll pay your regular income tax on it; if you've held it a year or longer, you'll pay a special capital gains rate. Although the capital gains rate is more favorable, it's money owed nonetheless. This won't be the case if you utilize a Roth IRA.
Since you contribute after-tax dollars into your Roth IRA, you get to take tax-free withdrawals in retirement. Like a brokerage account, Roth IRAs allow you to invest in any stock or fund of your choice. So, if you're eligible to contribute to it, it makes sense to use it up to the contribution limit ($6,000 or $7,000 if you're 50 or older) because of the tax break. Most people fall into the 15% capital gains rate bracket, so the difference in taxes paid on investments in a brokerage account versus a Roth IRA can easily reach the five-figure range over time.
