Over the past year, the total return for Vanguard Wellesley has been just over five and half percent. “Five and a half percent? What’s so great about that,” you might think.
Well, it can be great if you’re a patient investor and you allow the miracle of compound interest, what Albert Einstein is said to have referred to as the eighth wonder of the world, to work its magic for you. Father Time can be your friend, as I will explain in a moment.
Yesterday, I was speaking with a client whom I’ve been working with since his mid-50s. He’s in his early 70s now but it hardly feels like close to 20-years since we began working together. He has already weathered two destructive crashes in the stock market this century and has a balanced portfolio constructed to do battle against the next one.
Unfortunately, most investors forget the pain they experienced during the two crashes this century because it’s either too painful to remember how much money they lost, or they’ve been too busy trying to “make it back.”
When the S&P 500 lost close to fifty percent from its October 9, 2007 high to its March 9, 2009 low, it felt like the end of the world. It was a tough time. I’ll never forget the conversations I had with investors during that storm.
But, like in the movie Back to the Future where Marty McFly’s siblings disappear from history, soon ’07 through ’09 will disappear—the ten-year historical return numbers publicized by most fund companies will not capture it. Neophyte investors, with a false sense of security, will explain to their spouse, “I like this stock/fund/etf because it has a sterling ten-year track record.”
Back to reality and compound interest.
The miracle of a five and half percent return compounded over 20-years is multi-fold. First, because you weren’t bullied by Marty McFly’s, Biff, you put Father Time to work for you. And second, your portfolio multiplied by a factor of 2.917757. In other words, $100,000 turned into $291,775.70, which looks more like an average of just over nine and a half percent per year. That’s the F-U-N part of compound interest and it’s what makes a ho-hum five and a half percent—G-R-E-A-T.