The power of compounding
Earn returns on your returns — and watch your wealth grow

If you're investing with time on your side, then compounding is a powerful tool for creating long-term wealth. By earning returns on your returns, you can build a surprisingly large portfolio with only a small contribution upfront.

The sooner you start, the more your returns will multiply. For example, a 21-year-old investing $5,000 in a managed fund today and earning returns of 8% a year would have over $147,000 in today's dollars if they retired at 65.

Compare that to a 50 year old investing the same amount with the same returns. In the 15 years to retirement, they would only have accumulated around $15,800. That's why it can make sense to start investing now, even if you only have a small amount to invest.

Three ways to make compounding work for you

  1. Reinvest your income. Start by asking your investment manager to reinvest your investment earnings, rather than taking them in cash.
  2. Use a regular investment plan. By adding a little to your investments every month, you can build up a sizeable nest egg surprisingly quickly. You can also take advantage of a strategy called dollar-cost averaging to lower costs and accelerate returns. And by setting up a direct debit or an automatic funds transfer as soon as you're paid, you can create a set-and-forget investment strategy that keeps on working year after year.
  3. Put time on your side. The longer your money can work for you, the better compounding works. Here's an example of how time increases the multiplying power of compounding.

The power of compounding: $5,000 earning 8% year

Return for the year % of original investment Current value
Year 1 $400 8% $5,400
Year 10 $800 16% $10,795
Year 25 $2,536 51% $34,242
Year 40 $11,822 236% $147,780

Next steps

  1. Learn about dollar cost averaging.
  2. Choose a risk profile.
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