What's your income looking like these days? If you're like most people, it certainly doesn't seem like enough.
A recent survey conducted by LendingClub and PYMNTS indicates 63% of U.S. households report "living paycheck to paycheck," jibing with data from other surveys. That means that for the majority of adult Americans, every dollar of every paycheck is either already spent or earmarked for an expense as soon as it's deposited. In a similar vein, data gathered by The Motley Fool Research team says that 66% of Americans feel like their retirement savings aren't on track.
If you're already cash-strapped and feeling behind, it might be easy to decide to not even bother trying to save anything. But that's a faulty approach to preparing for the future. Even a few bucks a month could become a surprisingly big nest egg when invested wisely, and given enough time. The key is compounding.
The trick, however, is being willing to commit to and stick with the plan -- even when it feels like there's no point in doing so. Here's the proof.
Like a snowball, a slow start with a big finish
If you're not familiar, the concept is simple enough. Compounding is using your money's growth to generate more and more of its own (exponential) growth.
Said another way, compounding is the perpetual reinvestment of your capital gains, dividends, and interest payments in the same instruments paying them, giving you more income-driving assets, which in turn generate more gains, dividends, and interest, which are then perpetually reinvested... you get the idea. Think of it like a snowball -- given enough starting money and enough time, there will come a point when the annual gains on your investments will far exceed any amount of your job-based income you could contribute to the effort.
Image source: Getty Images.
That could be a little tough to believe, particularly if you're not able to save very much money to begin with. The math bears out the claim, though.
As the graphic below shows, a $10,000 investment in an S&P 500 (^GSPC 0.27%) index fund achieving the index's average annual gain of 10% will grow to $20,600 in 10 years, to $60,700 in 20 years, and to almost $170,500 in 30 years. Note that the pace of this investment's growth accelerates over time, as there are more and more reinvested gains being put to work in the same way. Also note there are no guarantees in investing. The S&P 500 falls in some years, and it might not go up over the time frame you need.
Data source: Calculator.net. Chart by author.
This example isn't applicable to most people, of course, in that most households don't have an extra $10,000 lying around. And if they did, it would more likely be an emergency fund rather than money that could be committed to a long-term investment.
A more plausible scenario for most people is actually even more encouraging. That's using a small amount of your current income to save for retirement.
Let's say you can come up with an extra $6,000 every year (or $500 per month) to put toward your retirement savings, and that you invest -- and reinvest -- these annual contributions and their growth in the same S&P 500 index fund for a period of 30 years. If history repeats itself -- though there is no guarantee it will -- after 10 years, you'd be sitting on more than $108,000, $378,000 in 20 years, and after 30 years, your nest egg would be worth just under $1.1 million.
Data source: Calculator.net. Chart by author.
Notice that halfway through this hypothetical stretch, your total compounded gains start to exceed the amount of your own money that you'll ever actually put toward the effort. And, about two-thirds into this 30-year stretch of my hypothetical example, your annual investment gains eclipse your annual contributions. To this end, most of your growth here actually materializes during the last one-third of the three-decade time frame.
And that may be the toughest part of this process (aside from scraping together $6,000 every year). For the first 20 years, it feels like you're not making enough progress, while for the first 10 years, it seems like you're making none. You are, though. You're simply setting the best-possible stage for the fireworks that are only seen well into the future.
Anything is better than nothing, so start when you can, with what you can
Your situation will be unique, of course. You may not have 30 years to save for retirement. Or, maybe $6,000 per year just isn't in your budget.
There are also other details to consider. The S&P 500 is not guaranteed to rise. You'll owe taxes on this money and your gains at some point in time, either along the way, or when it comes out of your retirement account if you've elected to grow your savings within an IRA. There's also inflation. While half a million bucks today is a decent amount of money, it may not mean nearly as much three decades into the future.
The more important message doesn't change, though. That is, it doesn't take a ton of money to save a nice nest egg. It only takes an amount of money many people can come up with, invested and reinvested effectively for a long, long time. Even if you can't quite mirror the example, you should still be able to replicate the spirit of the idea for yourself.
Oh, and by the way, you might be surprised at how much money you could save if you sat down for just a few moments and took a good, honest look at your monthly spending. For instance, many might be shocked to learn average grocery spending was $832 per month in 2023, a great deal of which end up being thrown out rather than eaten. Meanwhile, data from the Federal Reserve indicates that households are paying at least $150 every month on credit card interest charges.
Simply cutting out some of these costs, along with cancelling a couple of your rarely used streaming subscriptions, could help you come up with a decent chunk of money every month to put toward your retirement savings.
Doing something is always better than doing nothing.
