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The Importance of the Time Value of Money for the Young Investor

Don’t get old.” This is advice I often hear from my parents; but, whether we like it or not, the passage of time and the aging that comes along with it, is a force that cannot be controlled. As a recent college graduate with over a year in the workforce under my belt, optimizing each and every dollar is something I worry about often. Like most young professionals beginning their financial journey, dollars are few and goals are plenty. Typical priorities include saving up for a house, a new car, or a dream wedding, but what often gets lost in the shuffle is the formulation of an endgame, which is retirement. For many of us, retirement– something that is thirty to forty years in the future – is easy to put off or even forget altogether, so what I hope to illustrate today are the consequences of preparing early vs. starting late.

Let’s start with the “preparing early” scenario. Imagine that you are 25 years old with a goal to retire at age 65. That is equivalent to 40 years of work life, or accumulation period. From the beginning, you are conscientious about retirement and understand that it is important to save money for the future. Your plan is to take $100 of your paycheck each month after tax, starting at age 25, and put it into a Roth IRA. At the end of each year, it would equate to $1,200. Assuming you did this every year for 40 years and invested the proceeds into an investment portfolio and hypothetically earned a 7% annual rate of return (a conservative estimate for an 80% Stock/20% Bond Allocation), the ending value of your account would be $239,562.13. That doesn’t sound too bad, does it? The total amount invested would be $48,000 total ($1,200 x 40 years), with the result of those investments totaling to almost five times that amount.

Now, let’s explore the “starting late” scenario wherein you wait to start investing until you are 35 years of age instead of 25 years of age. In this case, you would still invest $100 monthly and earn a 7% annual rate of return, but the ending value of your account would be just $113,352.94. This is substantially less than the previous scenario of $100 invested monthly over a 40 year time period. By starting 10 years earlier, you only needed to invest $12,000 more; however, the ending value of your account increased by approximately $126,000.

What would happen if you waited until age 45 to start investing for retirement? In order to make up the difference for the late start, you decide to invest the current maximum contribution for a Roth IRA, $6,000 for those under age 50, until you retire. This is equivalent to investing a total of $120,000 (20 years x $6,000). At age 65, and assuming a 7% annual rate of return, your investment of $120,000 would be worth $245,972.95 (this is only $6,410.82 more than our original scenario, but to reach this point starting at age 45, you were required to invest two and a half times your original amount).

On the flipside, keep the $120,000 of principal invested, but spread it over 40 years instead of 20 years. In this case, the monthly investment would be $250, with the annual investment totaling $3,000. With a 7% rate of return over 40 years, the future value of the investment would be $598,905.34.

You get my point – we could run 1000 scenarios, each with different annual rates of return and amounts invested, but the most important message to take away is this: start investing early! Time is your greatest asset and it needs to be utilized to work for you. A good way to make sure you are taking advantage of the time you have is to set up automatic monthly contributions so that savings are pulled directly from your bank account. This will allow you to add money each month to your account without having to think twice about it. If you are someone who has waited a little bit longer to start investing for your retirement, do not feel defeated. It is better late than never, but address your retirement planning with some urgency. Your future self will appreciate your initiative. 

Brent Schafer


This memorandum expresses the views of the author as of the date indicated and such views are subject to change without notice. Community First Bank, HFG Trust, and HFG Advisors have no duty or obligation to update the information contained herein. Further, Community First Bank, HFG Trust, and HFG Advisors make no representation, and it should not be assumed that past investment performance is an indication of future results. Moreover, wherever there is potential profit there is possibility of loss. This memorandum is being made available for educational purposes only and should not be used for any other purpose. The information contained herein does not constitute and should not be construed as an offering of advisory services, banking services, or an offer to sell or solicit and securities or related financial instruments in any jurisdiction. Certain information contained herein concerning economic trends and performance is based on or derived from information provided by independent third-party sources. Community First Bank, HFG Trust, and HFG Advisors believes that the sources from which such information has been obtained are reliable; however, it cannot guarantee the accuracy of such information and has not independently verified the accuracy or completeness of such information or the assumptions on which such information is based. This memorandum, included the information contained herein, may not be copied, reproduced, republished, or posted in any form without the prior written consent of Community First Bank and/or HFG Trust and/or HFG Advisors. HFG Advisors, Inc, is a wholly owned subsidiary of HFG Trust, LLC. HFG Trust, LLC is a Washington state-registered Trust company and wholly owned subsidiary of Community First Bank.