How to Create Wealth in Your Retirement Accounts

Building wealth in America is most effectively achieved through investing in high-quality equities. Since the inception of the S&P 500 index in 1926, it has averaged an annual growth rate of over 10%, making equities a powerful tool for growing retirement savings, particularly in tax-advantaged accounts like IRAs and 401(k)s.

One of the most critical concepts in investing is compounding, where your returns earn additional returns over time. The Rule of 72 is a simple way to estimate how long it takes for an investment to double in value. You divide 72 by the annual growth rate:

• At 6% annual growth, your investment will double in 12 years.
• At 10% growth, it doubles in about 7 years.

For instance, if you invest $20,000 in a Roth IRA in your early 20s and it compounds at 10% per year:

• Your investment will double every 7 years,
• After 42 years, it could grow to $1.28 million, even without additional contributions.

Regular contributions over time could further increase your retirement savings, possibly reaching two to three million dollars.

The power of compounding is best realized over time, but markets can be unpredictable. There will be periods of low or negative returns, such as during the 1930s or the 2000-2009 period, when the market stagnated. However, history shows that staying invested is crucial for long-term gains.

• U.S. equities have consistently outperformed bonds and other investments overall.
• America’s stable democratic capitalist system has provided an environment where innovation and entrepreneurship drive strong equity performance.

For younger investors, this means taking a long-term view is critical. While the market may experience short-term downturns, equities are still the best vehicle for long-term wealth creation.

It is important to note that the 10% annual return seen in U.S. equities does not necessarily apply to foreign markets. While global diversification is useful, many global markets face challenges that U.S. equities typically do not.

• For instance, Chinese equities have experienced minimal growth over the past 25 years.
• Countries without stable democratic capitalism often see stock markets suffer due to political instability.

While diversifying into international markets can help manage risk, U.S. equities have provided stronger returns over the past several decades than most foreign markets.

As you near retirement, typically in your 60s or 70s, your focus should shift from accumulating wealth to preserving capital. At this stage, many retirees begin drawing income from their retirement accounts, making risk reduction more important.

• Many investors reallocate 20% to 50% of their portfolio to bonds or money market funds for stability.
• This approach ensures steady income while reducing exposure to stock market volatility.

However, if you have significant wealth and do not rely heavily on your retirement accounts for income, you may choose to keep a higher percentage in equities to continue growing your investments.

• Start early: The sooner you begin investing, the more time your money has to grow through compounding.
• Stay consistent: Regular contributions maximize the power of compounding over time.
• Think long-term: Despite market volatility, equities have consistently been the best choice for long-term wealth growth.
• Shift with age: As you near retirement, consider moving more assets into safer investments to protect your capital.
• Stick largely with U.S. equities: U.S. stocks have delivered superior returns in recent years compared to many international markets, though global diversification can help mitigate risks.

As Bradley, Foster & Sargent marks its 30th anniversary of serving clients, the fundamentals of long-term investing remain just as vital today as ever. Starting early, investing consistently, and staying invested are essential principles for building wealth in retirement accounts. U.S. equities, with their historically strong performance, offer excellent opportunities for long-term growth.

By taking a disciplined approach, you can leverage the power of compounding to secure a financially stable retirement and maximize your retirement savings.

This blog is provided for informational purposes only and should not be considered investment advice or an offer for a particular security or securities. The views and opinions expressed by the author are those of his or her own and do not necessarily represent the views of the firm. It does not consider any investors particular investment objectives, strategies, tax status, or investment horizon. You should consult your tax and financial advisor.