Mutual funds can make you a millionaire, and it won’t even be hard. Mutual funds provide the diversification and low transaction costs that a patient investor can use to become wealthy. For funds to work for you though, you have to start early, choose wisely, contribute regularly, and stick with your plan.
Start Early
Albert Einstein said, “The most powerful force in the universe is compound interest.” He wasn’t just talking about the way some people’s credit card balance never shrinks, though that’s one implication.
For investors, compound interest does delightful things for the money they stash away. For example, $10, 000 invested at ten percent produces $1,000 in the first year. In the tenth year, that 10,000 produces $2,400, not bad. After 25 years though, the money has grown to a total of $108,000. These figures are from Bogle on Mutual Funds, a reliable old book by John Bogle, another Einstein.
Perhaps it occurs to you that you cannot consistently get ten percent on your money with any safety. That is true. However, you can invest, and then add to your return an amount that will make it equal ten percent each year. That is a form of Value Averaging, and historically, it has worked very well.
Choose Wisely
A very concentrated mutual fund will not do the job for you. You want broad diversification, across large cap and small, growth and value, in favor and out. You may want to do some offshore investing, sooner or later, and possibly pick up a small amount of gold. These choices diversify your portfolio, and that’s good because no one has any way of knowing which investments will be the best in any given year.
Most important though, is your core holding, a diversified, broad-based mutual fund. It may be purely a stock fund when you are young and clever, and you may eventually switch to a balanced fund when you’re older and even smarter. It should be a reliable, non-tricky fund for the long haul. An index fund may be your best bet, but that’s up to you.
As important as diversification are costs. A Morningstar study highlights the way low costs are correlated with relatively high returns. Whatever you do, when you choose a mutual fund, check the total costs.
Contribute Regularly
Value averaging is a kind of dollar cost averaging. Regular dollar cost averaging will let you buy more shares when they are inexpensive, and fewer when they are high. Over time, you will obtain shares at a lower average price, and your profits will increase accordingly.
Stick With It
Most likely, 1932 looked like a terrible time to invest. Unemployment was high; stocks were low. It happened to be the right time to take the plunge though, for anyone who had ready money.
By contrast, China looks great right now. Real estate is booming and factories are humming. Is the moral to avoid China? No. The moral is: you never know. For the long term, maintain a diversified portfolio of assets.
Mutual funds have made millionaires before. With patience and care, they can make you one too.