One thing that separates successful investors from not-so-successful investors is they understand that investing doesn't have to be hard, and oftentimes, the harder you make it on yourself, the worse off you are. You don't have to be a financial genius to be a successful investor; you just need to follow conventional wisdom and rules of thumb that exist for a good reason: They work.
Here are three things most successful investors will understand.
1. Few things are more powerful than compounding plus time
Few aspects of investing are more powerful than compound growth. When the gains you've accrued from an investment earn gains as well, your portfolio's growth snowballs. For most people who build wealth in the market over time, it's the compounding that really gets the job done.
To illustrate, consider three hypothetical people of different ages who each make a one-time $1,000 investment that returns, on average, 10% annually. If each of them lets the investment sit untouched until they turn 65, here's roughly how much they would have accumulated.
|Initial Age||Years Holding Investment||Investment's Value at Age 65|
With enough time, compounding can do a lot of the heavy lifting for you. And the combination of time, compounding, and a steady pattern of investing works even more powerfully. At that same 10% annualized average rate of return, if you invest $1,000 a month, after 24 years, you'll have a portfolio worth more than $1 million.
The key to becoming a millionaire isn't saving $1 million. It's starting early, investing steadily, and letting time and compound growth do the work for you.
2. Timing the market is a fool's game
Any investor who tries to make money by timing the stock market is playing a losing game. It's virtually impossible to do consistently, and the sooner you understand that, the more headaches (and money) you can save yourself. One of the best things investors can do is use dollar-cost averaging, which involves making consistent investments at set intervals, regardless of stock prices or what the market is doing.
Most people with 401(k) plans have them set up automatically in a way that takes advantage of dollar-cost averaging. They contribute a specific percentage of every paycheck to their investments, no matter what. Because your investment schedule is preset, it helps ensure you don't find yourself waiting for the "right" time to invest. You may find yourself investing right before a stock drops or before it rises. Whatever the case, you have to trust that it'll even out over time.
Remember: Time in the market is more important than timing the market.
3. An S&P 500 index fund should be a staple
The S&P 500 tracks 500 of the largest U.S. public companies, and it's often used to measure how well the overall stock market is doing. I'm a firm believer that an S&P 500 index fund should be a staple in any investor's portfolio. It doesn't have to be the bulk of the portfolio, but it should always be some part of it. With an S&P 500 index fund, you get three great benefits from a single investment: instant diversification, low fees, and exposure to many blue chip companies.
Past performance by no means guarantees future performance, but it also helps that the S&P 500 has a history of returning around 10% annually over the long term. There are a lot of smart people who work on Wall Street that put together mutual funds, and these mutual funds often underperform the S&P 500.
In 2021 alone, 85% of actively managed large-cap funds underperformed the S&P 500, according to the S&P Indices versus Active (SPIVA) scorecard, which measures actively managed funds against their relevant index benchmarks.
In 2007, Warren Buffett made a $1 million bet that a basket of hedge funds wouldn't outperform the S&P 500 over the next decade, and he was right. An S&P 500 index fund is cheap and reliable -- let it lead you to the promised land.