Why you’ll never be rich just by investing
The hard truth about allocating capital in the real world
I understand that most people that are interested in capital allocation (i.e. stocks, bonds, index funds, etc) believe this is a good way to build wealth and perhaps become financially independent to the point where you could stay at home for years and not have to worry about money. This, unfortunately, is not realistic, let me tell you why that is.
It’s just too slow
Why you think about investing you are always thinking about a long term goal of yours but that isn’t always what you need, is it? You don’t want to have kids when you’re 50 years old, you don’t want to move out of that low-income neighbourhood when you’re 40. You want to do it in the next 5/10 years, not when you have grey hairs and a bald spot.
If we think about the SP500, you are talking about a 7.5% annual returns rate.
Do you really believe that this is going to get you rich?
Let’s run the number then.
Assuming you are investing $300/month, that would add up to $3600/year. That is what we are going with for this example.
With a $3600/year investment, you would have to save for 16 years to break the $100,000 mark. Sound pretty good right?
What about when I tell you that your 16th year saving would give you an 82% ROIC? Sounds even better, right? Ok, let’s keep going so you can understand what I’m saying.
Beware of inflation
Using the same example, let’s say your goal is the $200.000 mark.
You would think that you can get there in 23 years right? Invest in 3600, 7.5% return and all that… Unfortunately, that’s not how the world works.
Yes, in your portfolio, it would appear $205.300.42, mathematically speaking. However, you have to adjust your money to inflation or did you think your money would be worth the same in 20 years?
Let’s do the math, shall we?
Today, you invest $3600 and it really is worth $3600. In 10 years, you keep investing $3600 but by then, that money is worth $3001.50 in today’s money. In 20 years, you keep investing $3600 but by then, that money is only worth $2450 in today’s money.
What do you think will happen to your according to inflation portfolio? Your $200,000 mark will no longer be 23 years away. It is now 25 years. Now… Are you even aware of touch money that would make you? Less than $4000/year. About $320/month. Sad isn’t it?
Do you still believe you are going to get rich with $320/month in 25 years? Ok, then let’s reinvest those dividends.
Dividends reinvested
You will be paid some money through dividends throughout the years. Some companies pay yearly, some quarterly, and some even pay monthly, but what dey all have in common is that they all pay very little.
The Vanguard SP500 ETF Index fund pays, as I’m writing this article, a 1.84% dividend yield. This means that for every $1000 you invest, you will get back $18.4/year.
Reinvesting your dividends means that you can exponentially increase your portfolio, but you can’t use any of the money you get for years and years.
Yes, you will get to your $200,000 mark in 22 years, but is it worth it?
I don’t believe anyone with a normal income can afford something as difficult as investing for financial freedom. It takes more than 30 years to have a somewhat reliable stream of income and even then I didn’t even take into account what we can’t predict.
This COVID-19 pandemic closed off every big economy in the world, shut down large companies and those that didn’t close had to cut dividends. The stock market went down more than 30% and hasn’t yet recovered from the pandemic’s fear.
I can’t wrap my head around the thought that I can someday invest my way into measurable wealth. Not even with all the number favouring me and the world with no downturns, no recessions, no pandemics, no scandals, nothing bad for the stock market. Just a nice and simple 7.5% yearly return.
Now, don’t take my word as law, because you should do whatever you want to and feel like you need to. If you love finances and feel like you know enough about the stock market, then, by all means, go for it. I do not recommend it, but who am I to tell you what to do with your money, right?
