I just got a call from my 97 year old Mother, “hey, things are good the market’s up”.
Mom’s been tracking and participating in the stock market since her mid 20’s, and to put that in perspective that’s only 15 years after the stock market crash of 1929. She’s always been a pioneering woman in everything she’s tackled, but I give her extra credit for braving the financial markets given her fresh personal experience with the big crash.
She ventured out from her family as a young business woman (unheard of in the 1940’s), and took a steamer to Italy learning the fashion business. That led to an early career at Filene’s in Boston, resulting in some pointed financial advice from her boss. “Conchetta , if you want to enjoy long term financial success, invest in the stock market, you won’t regret it”. Some 70 years later she still watches MSNBC to monitor her investments.
Our family was a middle class working family. Mom’s goal (since she controlled the purse strings) was to work hard, budget living expenses, live within our means and have a disciplined approach to saving. While never wealthy, she was still able to build a moderate nest egg, primarily from growth in the stock market over the long-term, and that’s after raising and putting two kids through college. She currently lives in an independent living facility, and uses her investments to fund her elder years. The stock market was her alternative to not having a company or government pension, and she was brilliant in her self-sustaining ability to build businesses, whether a fashion shop, PR Firm or Ice Cream Shop, just to name a few.
I often wonder why individuals fear the stock market. To be sure, not doing your homework and a reckless approach to investing can easily wipe out a life time of savings. However, a clear and basic understanding of the stock market, while properly and conservatively investing can provide a substantial retirement nest egg. My Mom’s living proof; and the younger the better.
There are a few ways one can amass wealth. The quick way is to get lucky (like during the dot com era), and work for a money loosing company who issues stock options in a hyper-inflated valuation bubble, but good luck with that one, I think those days have sailed. Another may involve tapping the family fortune, if you can get past the estate lawyers. Or, maybe you have the ambition to start up your own company, not as easy as it sounds. However, if you aren’t a risk taker, you’ll probably earn a respectable, yet modest income over your lifetime, just like Mom.
While this blog isn’t intended to provide specific financial recommendations, it is intended to teach some basic ins and outs of stock market investing, and maybe address a few fears. Let’s start with Mom’s favorite investing principle, namely compounding, and the longer the time frame, the better.
Let’s follow a hypothetical example of compounding, using Mom’s three investing rules. 1) Mom was religiously committed to saving annually, and that took real discipline. 2) She only purchased well known dividend paying stocks (in today’s world that could also mean mutual funds or ETF’s). 3) She reinvested all her dividends back into the market.
The trick to investing is dealing with the emotional roller coaster associated with unavoidable stock market swings, from joy to fear, and back to joy again.
NOTE: Don’t get hung up in the following numbers, they’re only being used to illustrate the concept of compounding.
Oh joy. You purchase your first 100 shares of stock at $10 for a total of $1,000. It pays a monthly dividend of approximately .30 cents per share. At the end of the month, the stock is still $10, and you receive your first monthly dividend, which equals three shares. You reinvest those and now you have 103 shares, and your portfolio is now worth $1,030.
Oh fear. Somewhere in the world, some crazy geo-political event unfolds, and bam, your stock drops from $10 to $9, and your portfolio is now worth $927 (103 shares x $9). The inexperienced investor may start freaking out and sell, but the long term investor loves it. Why, for the chance to reinvest dividends at a lower rate, knowing the market will eventually come back over time (remember folks, we’re talking at least 10, 20 or even 30 years of investing here).
More fear. The end of the month comes and the stock is still at $9. You still get your monthly dividend of 3% or so, which is now .27 cents per share or let’s say 2.8 shares. You reinvest those shares and add to the total of 103, now equaling 105.8, and your portfolio is now worth $952.20 (105.8 x $9). Crap, still in the hole.
Oh joy again. The earnings come out for the month and your stock rises back to the original purchase price of $10. You receive your end of the month dividend of three more shares, or approximately $30, and your total shares now equal 108.8, and your total portfolio is now worth $1,088 (108.8 x $10).
And bam, just like that your already in the plus. Of course this is an oversimplification, since I left out any potential fees, capital gains tax, and commissions. But, you get the idea. If the market goes up you’re a winner, and if the market goes down (assuming you are reinvesting over the long term), you’re still a winner.
The emotional roller coaster can be heavy at times, especially when the market really corrects, or goes through a mortgage financial crisis. But the surprising benefit to reinvesting is catching the market at the low, and accelerating your return when it rebounds, hence the power of compounding, and a sure way to generate wealth over a 20 – 30 year time horizon. If you do it right and stick to it, one day you’ll review your online statement and feel financially secure heading to retirement. Then you simply switch from reinvesting those dividends, to taking the cash living out your golden years in style.
So here’s my Mom’s advice for you young in’s. Don’t fear the market. Get in early. Save religiously, and only purchase well known dividend paying mutual funds. Reinvest those dividends, and commit to the market for at least 20 years. If you need help from a financial advisor, get it, but make sure he has your best interest in mind. Learn about taxes and investing. I’m not saying you shouldn’t try a few other options for building wealth, but if you’re risk adverse, then compounding over the long term is the perfect wealth building strategy for you. It certainly worked for Mom.
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