How do you turn $ 300 a month – about $ 10 a day – into a nest egg worth more than half a million dollars? The graph below illustrates a very simple path that could do exactly that for you. It shows what would have happened if on the first trading day of each month you spent $ 300 a month in the SPDR S&P 500 ETF Trust (NYSEMKT: SPY) and have reinvested your dividends.
That’s it. That’s all you would have to do between February 1993 and April 2021 to make just over $ 525,000 from $ 300 a month. The incredible simplicity of the plan is why this one stock market chart will make you a better investor.
Chart by author based on data from Yahoo! Finance.
Why it is such a powerful strategy
The SPDR S&P 500 ETF Trust is an exchange traded fund that seeks to S&P 500 index. The index contains 500 of the largest US companies, and when people talk about the performance of ‘the market’, they often talk about it in terms of the index. The fund has a low expense ratio of 0.09% and has a small turnover of 2%, which means that investors get market-like returns without being exposed to high overheads or subject costs.
By regularly buying $ 300 from the fund each month and reinvesting your dividends, your returns would have gotten very close to the overall market, without any constant effort. You would also have calculated your investments in dollar costs. By setting the same dollar amount each month, you would buy more stocks if the market was lower and fewer stocks if the market was higher.
This is an excellent way to invest if you are worried that the market is too high, as well as to keep investing if the market moves against you. It’s also something you can do completely automatically through your broker, so you hardly have to think about it when you have it going.
Despite its simplicity, in less than 30 years the strategy has changed from $ 300 a month – about $ 10 a day – to just over $ 525,000. There is no guarantee that the future of the market will be as bright as it used to be. the past was not. The only guarantee the market has is that investing $ 0 a month for a long time will always be worth $ 0 if all is said and done.
What if the market declines or a company fails?
Image Source: Getty Images.
If you look closely at the chart above, you will see that the value of the portfolio has dropped many times already. Striking declines include the early 2000s, following the dot.com explosion; around 2008 during the financial crisis; and more recently in early 2020, as the COVID-related economic constraints were introduced.
In all of these periods, the lower stock prices meant that the continued $ 300 monthly investments and the reinvested dividends bought more shares for the same amount of dollars. Buying more shares at a lower price is an excellent way to take greater advantage of the subsequent recovery.
Although there are no guarantees that a given company will recover from a market crash, it does suggest another advantage to own a broad-index fund such as the SPDR S&P 500 Index ETF. Even if some of the fund’s ingredients fail completely, as long as the US remains a market economy, there will be other companies that will take their place.
The fund’s turnover of around 2% reflects the fact that the index components change from time to time. As the owner of the fund, however, the management takes place behind the scenes. As a result, over time, the fund will continue to represent a stake in 500 of the largest U.S. companies, even if the specific companies change.
Start now
Another thing to note about the chart is that the biggest growth in dollar value took place towards the end – in recent years. It is an artifact of the way composition works. If you earn a return of $ 1,000 on $ 1,000, you get a profit of $ 100. If, on the other hand, you earn a return of 10% on $ 100,000, you get a profit of $ 10,000. The same percentage increase results in a much larger dollar profit if you have a larger pot of money to work with.
More months of adding money plus more months of compounding on top of the base means there will likely be a bigger cash pot in your later years of investment than in your previous years. As a result, the sooner you start, the better your chances of ending up with a big enough nest egg so you can see the benefits of a bigger pool of money in your later years. Start now, and let the composition work for you.
This article represents the opinion of the author, who may not be in agreement with the ‘official’ recommendation position of a Motley Fool premium advisory service. We are furry! Questioning an investment thesis – even one of our own – helps us all to think critically about investments and to make decisions that help us become smarter, happier and richer.