If you're looking to the stock market to grow a nice nest egg by the time you retire, you're looking in the right place -- equity investments are the most approachable, plausible means of building real wealth. Contrary to a common assumption, though, doing so doesn't require a great deal of trading and constant monitoring. When it comes to growing your money, less is more, and simpler is better.
With that as the backdrop, here are the top five things you should do if you want to multiply your retirement savings by a factor of 10 while doing as little as possible.
Automate everything
The biggest challenge investors face isn't finding enough great stocks to own for the long haul. Most investors' biggest stumbling block is finding the time to put new money into the market as it becomes available. It's all too easy to leave cash deposits in individual retirement accounts and brokerage accounts as just that -- cash.
The solution is simple enough -- automate the deposit and deployment of your money. Most brokerage firms can facilitate the recurring transfer of funds from a bank account or paycheck into an investment account, and most will also automate the recurring purchase of mutual funds of your choosing. This hands-off approach means you don't have to think about one of the biggest steps in investing. More than that, though, it offers a bit of built-in discipline to continue investing money in poor markets. That's when you should be putting money to work the most, even if it's difficult to do so.
Start early, even if you're starting out small
Make no mistake -- time will do most of your portfolio's heavy lifting. No matter how you do it, most of your net investment gains will materialize during the last few years of however many years you invest. This is true whether you're in the market for just five years or five decades.
The image below illustrates this idea. In this hypothetical portfolio, an investor started out with just a $2,000 investment in an S&P 500 index fund held in a tax-deferred retirement account. They then added $2,000 more to this holding every year for 37 consecutive years. At the end of this time frame, the portfolio is worth nearly $800,000, or more than 10 times their total lifetime cash contributions of $74,000. Notice, however, that half of their net gain of $718,000 didn't materialize until the final seven years of the period.
Calculations by author via Calculator.net. Chart by author.
If you're not planning or able to work 37 years, that's OK. The point being made here is that you don't start making real money with stocks until you start compounding, or reaping gains on your previous gains' previous gains. It just takes time -- the more, the better.
Reinvest your dividends
These compounded gains, of course, presume you're reinvesting whatever dividends you're collecting into more of the same instrument. If you're instead collecting dividend payments as cash and spending that money, you'll end up with only between half and a mere one-fourth of the net growth you could have achieved by pouring these cash payments back into the stock market.
Diversify, diversify, diversify
In the example above, I assumed the investment in question was a well-diversified, index-based holding like the SPDR S&P 500 ETF Trust or the Vanguard 500 Index Fund. But there's more than one way to skin a cat. You can own individual quality stocks and still match or beat the S&P 500's average annual gain of 10% (the rate used as the basis for the above hypothetical scenario).
Nevertheless, you'll want to lean toward more diversity -- the Motley Fool recommends owning at least 25 different stocks.
That may seem like a lot, and it is. Even if one of these tickers catapults higher, you own relatively few shares so it won't have as much of an impact on your portfolio's total value.
But diversification isn't meant to offer you more chances to own big winners. It's more importantly a means of preventing the occasional clunker from taking a big toll on your portfolio. There's nothing worse than an oversized bet going south on you right before you retire, since it could force you to postpone that retirement.
Raise your contributions as your income grows
Finally, although in the example above the investor automated a yearly investment of $2,000 into an S&P 500 fund, this doesn't mean you can't or shouldn't add to your annual contribution as you age. You'll likely see at least some pay raises over the course of 20, 30, or more years' worth of work. While some of that additional income will be needed to cover the added expenses of children, school, homes, and the like, you should try to up your automated contribution a little every year. Even growing the annual investment by $100 can make a surprisingly big difference by the time you're ready to dip into your retirement nest egg.
In many cases, this change can be achieved with a quick phone call to your brokerage firm or fund company, or a quick update of your automated deposit instructions.
