Is Compound Interest Overrated?

On this week’s podcast Michael and I touched on two personal finance topics that are important for everyone, but especially young people:

(1) The more money you make, the more money you spend.

(2) The gains from compounding are back-loaded

Here’s the video:
 


 
Towards the end of this clip I mention how the majority of the gains from compounding tend to come at the end. This is one of the things that makes compounding equal parts amazing and maddening.

Michael responds, “If 90% of your wealth comes after age 80, I can’t get excited about that. I think compounding is overrated.”

My co-host was being a tad facetious here but his point stands. It’s true you need many decades to allow compounding to do most of the heavy lifting for you.

Buffett has made something like 95% of his wealth after age 60, to which most normal people would reply, “That’s a long time to wait to enjoy myself.”

Although Michael was half-joking when he called compound interest overrated, I think the nature of compounding makes it even more important for young people to start saving as soon as possible.

If it potentially takes many decades for compounding to pick up the slack, the sooner you begin saving the better. That means you’ll begin seeing the benefits sooner than those who put it off until later.

And even if you can’t set aside a ton of money right away, simply building those habits from a young age can be helpful. The longer you wait the harder it’s going to be.

If losses feel twice as bad as gains feel good, it’s only going to get harder to set aside money from your paycheck as you age. The sooner you begin paying yourself first in the form of savings, the easier it will be to avoid missing that money and having loss aversion kick you in the teeth later in life.

Saving money is not easy when you’re young.

But it can be even harder to begin when you’re older because the more money people make the harder it can be to let go of their spending habits.

Plus the impact of compounding is more muted the later you start saving money.

Further reading:
Is the Ford F-150 Partially Responsible for the Retirement Crisis?

Now here’s what I’ve been reading lately:

This content, which contains security-related opinions and/or information, is provided for informational purposes only and should not be relied upon in any manner as professional advice, or an endorsement of any practices, products or services. There can be no guarantees or assurances that the views expressed here will be applicable for any particular facts or circumstances, and should not be relied upon in any manner. You should consult your own advisers as to legal, business, tax, and other related matters concerning any investment.

The commentary in this “post” (including any related blog, podcasts, videos, and social media) reflects the personal opinions, viewpoints, and analyses of the Ritholtz Wealth Management employees providing such comments, and should not be regarded the views of Ritholtz Wealth Management LLC. or its respective affiliates or as a description of advisory services provided by Ritholtz Wealth Management or performance returns of any Ritholtz Wealth Management Investments client.

References to any securities or digital assets, or performance data, are for illustrative purposes only and do not constitute an investment recommendation or offer to provide investment advisory services. Charts and graphs provided within are for informational purposes solely and should not be relied upon when making any investment decision. Past performance is not indicative of future results. The content speaks only as of the date indicated. Any projections, estimates, forecasts, targets, prospects, and/or opinions expressed in these materials are subject to change without notice and may differ or be contrary to opinions expressed by others.

The Compound Media, Inc., an affiliate of Ritholtz Wealth Management, receives payment from various entities for advertisements in affiliated podcasts, blogs and emails. Inclusion of such advertisements does not constitute or imply endorsement, sponsorship or recommendation thereof, or any affiliation therewith, by the Content Creator or by Ritholtz Wealth Management or any of its employees. Investments in securities involve the risk of loss. For additional advertisement disclaimers see here: https://www.ritholtzwealth.com/advertising-disclaimers

Please see disclosures here.