“Math class is tough!”
That’s not me talking. That’s an infamous quote from a Barbie doll that was offered for sale to the public years ago. Understandably, that line did not go over well with a lot of people. We can all be glad that such toys aren’t offered for sale these days, and being a parent with a daughter who excels in math, you can certainly count me in that group!
Hopefully nobody out there is taking a page out of that playbook, and thinking that “personal finance math is tough!” If they are, they should stop. It’s not tough.
Yeah, there’s no doubt that math can play a huge role in finance. This can even extend to personal finance, and it can actually be quite easy. Big picture, it’s really matter of making more money than you spend, and taking the savings and investing it wisely to build up net worth.
As I think about it, there are actually 3 numbers we can focus on to help us go a long way toward financial success. Here they are, 3 financial numbers that can help us build wealth:
Number of Years of Saving Money
Most of us have probably seen those examples of how much better off a person can be by starting to save for retirement when really young, compared to waiting a decade. It can be quite startling.
Let’s say Joe saves $10,000 one year, and then holds it until retirement 20 years later. Let’s also assume he invests it and earns 8% per year, and this amount compounds over time. Joe would see his initial investment grow to nearly $47,000 (not inflation-adjusted) by retirement.
Now, let’s suppose his much younger sister Jane saves $10,000 that same year, and holds it until her retirement 30 years later. All else equal, this amount will grow to over $100,000 by retirement.
So, the time to retirement was just 50% more, but the resulting dollar total was over 100% more. Clearly, time has value!
Keeping it simple, the more years we have to save and invest, the more financially successful we’ll be.
Rate of Return on Investments
Going back to Jane, suppose she earned 10% on that $10,000 compounded over 30 years, instead of 8% as illustrated in the example above. In this case, it would result in an amount of nearly $175,000 by retirement with the increased rate of return.
A 25% increase in the percentage points of return (8% to 10%) yields a nearly 75% increase in overall dollar total during the same time period. Obviously, rate of return makes a big difference!
Keeping it simple, the higher our percentage rate of return on investments, the more financially successful we’ll be.
Percent of Income Saved
Let’s revisit our friend Jane again. Let’s now suppose that she saved more than $10,000 that year which happened to be 20% of her $50,000 income. Instead, let’s assume she saved 24% of her income – which would be $12,000. Over the same 30 year period, that investment would grow to over $120,000.
Basically, that incremental $2,000 in that one year resulted in about $20,000 more at the end of that time period. Seems like a pretty good return!
Keeping it simple, the higher the percent of income we save, the more financially successful we’ll be.
Bottom line: sure there are many numbers and metrics we could analyze regarding money, but if we focus on simply increasing these 3 basic numbers, we’ll be going a long way toward putting ourselves in a position to succeed!
My Questions for You
What do you think about these 3 numbers as levers we could pull to grow our net worth?
Which of these are you focusing on to improve your financial picture?
Any other suggestions on simple numbers or metrics we can focus on?
Great job of breaking down this complicated subject to some basic principles! Right now, I’m focusing the most on percentage of income saved. I can’t do anything about time, except let it keep going, and I know I only have so much control over my rate of return (I can control where I invest, but I can’t make the whole market swing in my favor 100% of the time), so I’m looking at the factor that I can have the most influence over right now. I’m currently saving 30% of my income, but I’d love to boost that number even higher. I’m trying to make it easier on myself by establishing a side hustle for additional income – any extra money I bring in from that can go straight into savings/investments.
30% – that’s great! Seems like you’re on the right track.
Given our ‘stage of life,’ our focus now is not exactly a number but rather ‘capital preservation.’ Having worked hard and saved diligently for many years, we’ve managed to put away a decent nest egg. Now we just don’t want to lose a sizable chunk of it through risky investing!
It’s painful to lose what has been accumulated through hard work and years of compounding, very understandable.
I am at the stage of my life where I have built a comfortable nest egg and will need to start allocating more to fixed income type investments to preserve capital. Having said that I will always keep at least 40% invested in growth stocks since I will need to continue to grow my portfolio throughout retirement.
Sounds like you’ve managed money quite well, and it does make sense to keep the growth component in mind. While there is risk with stocks, there is also risk with more conservative investments in terms of losing relative to inflation. Seems like you’re smartly factoring that in.
There is so much to learn in the personal finance world. These past two years have just been a crash course for me, and I have barely even kicked the tires when it comes to investments. But I knew that every minute that I have spent learning more has been time very well spent.
Yes, we have to start somewhere – and those early learnings are probably incredibly valuable!
I’m with Kurt and Paul, My wife and I don’t want to lose much of the nest egg we’ve built. We are only 9 years or less away from retirement. At this point, we have our assets evenly split between stocks and bonds.
I wish I had saved more in my 20s, but I didn’t really have much then. I was in the Air Force and then in college until I was 29. I did max my tax-deferred savings from then on. My wife and I are putting away at least 35% of our gross income, now. For the first ten years of our marriage, we were saving around 45% of our gross income.
Every time I read articles about the power of compounding, I kick myself for not having an account open. However I have already started the process of setting up. I at least need to be stashing away some cash before I understand how investments work. Great breakdown.
I like to focus on the first and third number for the simple notion of control.
As Mr Money Mustache talked about a few weeks ago.
I can’t control the market, but hope for the average return. Right off the bat, I eliminate #2 from my thought.
With the first and third, I can completely control so I focus on those. Or at least we are focusing all of energy lately and now on those.
Enjoyed this piece and being my first time here, I’ll be stopping back more often.
The Warrior
NetWorthWarrior.com