Too many people think that becoming a millionaire is a pipe dream. And often, for them it will be – because mentality is everything.
In reality, the most important factor that comes into play for long-term wealth generation is the desire to start while you’re young. The more I’ve thought about it, the more I realize there’s a lot of reasons why this is true. So I thought I would write a post about why becoming a millionaire starts young.
Please note that this is for your typical millionaire – the person who has a decent career, but their eventual wealth is more a result of frugal living and intelligent investing than due to an extremely high salary. This does not apply to the founder of a tech startup that goes public, or someone who wins the lottery. There are definitely lots of millionaires who found their wealth while they are older – but more typically, becoming a millionaire starts young.
1) Compound Interest
“Compound interest is the eighth wonder of the world. He who understands it, earns it; he who doesn’t, pays it.”Albert Einstein
Compound interest is a tremendously powerful force. In fact, it is without a doubt the most underestimated concept that I’m aware of. Let me throw a few scenarios at you to prove my point:
- A young man works extremely hard in university and as a result, receives a full-ride scholarship and doesn’t pay for a dime of his education. He also works at relatively high-paying jobs in his summers. Most importantly, he is extremely frugal. He graduates with $50,000 of savings at age 22 and invests it in the stock market. At 65 when he retires, the $50,000 has grown to $917,217.73 and is generating $36.688.71 of annual dividend income.
- A young sixteen-year-old girl receives an inheritance of $100,000 when a family member dies. She decides to be proactive with her money and invest it into the stock market. After twenty years, she is now 36 and wants to buy a house. The money has grown to $386,968.45 and goes a long way in helping her achieve her dream of home ownership.
- A family puts away $20,000 when their child is born to save for their education. After 18 years, the family rejoices when the kid is accepted to Harvard. Because of their smart investing along the way, their $20,000 has grown into $67,598.65 and suddenly Harvard looks a lot more affordable.
These scenarios all assume a 7% annual return in the stock market and a 4% retirement dividend yield (for scenario 1). Now, these scenarios are a bit conservative, as 7% is a bit on the low side for stock market returns.
The amazing thing about compound interest is that over a long period of time, a few percentage points of difference in investment returns will go a long way – look at what happens if the recent grad invested his $50,000 at a few different rates of return:
If this doesn’t show you the power of compound interest, nothing will.
2) The Will to Win
The older I get, the more I realize that one of the most important factors to being successful is insane amounts of ambition and grit. Don’t believe me? What about all of these incredible entrepreneurs who were born extremely poor:
- Howard Schultz of Starbucks
- Oprah Winfrey
- George Soros
- Li Ka-shing
- Larry Ellison
Having grit is the reason why these people were able to become successful. I’ve read that grit is associated with higher GPAs, military performance, and even advancing to the final round of a spelling bee.
So why does this matter while you’re young? Well, anecdotally, it seems like people become less competitive the older they get. Think about it – do you know anyone as competitive as a high school jock?
Harness your competitiveness while you’re young – or you’ll be sad you didn’t.
3) No Dependents
Though kids have a lot of upsides to them, financially they are certainly expensive. Let me lob some statistics at you:
- Canadian Living estimates that it costs approximately $243,660 to raise a child. Let’s break this down a bit.
- That equals $12,824.21 per year until they turn nineteen and become “independent”
- On a monthly basis, that becomes $1,068.68.
- And that’s only for one child!
- For a big family with five kids, that’s $5,343.42 per month. Ouch.
Now think about it. Typically, we don’t have kids until we’re a bit older. This means that while we’re young, we have a lot more disposable income to invest in the capital markets. Taking advantage of this while we’re young is so key to reaching that elusive millionaire status.
4) Nothing to Lose
When you’re young, you’re much more able to take risks because you have more time to make up for the potential losses.
For example, consider your tactical asset allocation. This is simply fancy words for how much of your portfolio is invested in each asset class (stocks, bonds, real estate, etc). When you’re young, you can allocate much more of your portfolio to risky, return-seeking asset like stock versus low-risk, low-return assets like bonds, because you don’t have to worry about withdrawing money in the near future. And due to the compound interest that was mentioned earlier, this makes a huge difference over the long-term.
I’ve touched on the return differential already, but never explicitly in terms of different asset classes. Stocks have always outperformed bonds over the long-term, with typical bond returns around 4% and stocks around 8-9%. This is huge – check out the difference over 10 years of investing in an 8%-returning asset class vs a 4%-returning asset class.
In ten years, you’ll be tremendously glad if you were overweight stocks.
5) Boatloads of Excess Energy
When we’re young, we are in our prime, both mentally and physically. Realistically, the older we get, the less energy we have. So it’s important to capitalize on this before we get older.
So how does this manifest itself in the typical millionaire’s wealth accumulation plan? Well, there’s really two ways. You can work harder and longer at your current job and hope that this accelerates your career and income trajectory, or you can start working on side hustles.
For me, it’s all about side hustles. One great example is Uber – according to this post by Fast Company, Uber drivers can make up to $30/hour in New York City. If you do that for a few hours a week and invest the proceeds, it’ll do wonders for your trajectory plan.
Can you guess what my favorite side hustle is? This blog, obviously! Right now I’m not making any money with it, and my main goal will always be to help other people understand the complicated world of finance. But maybe someday I can monetize this beauty and become a full-time blogger – who knows?
Readers, do you think it’s important to start young if you want to be a millionaire? At what age do you think the typical millionaire starts planning for their financial future? For any of my millionaire readers – what’s it like to cross over that amazing milestone? Let me know in the comments section!