Giving Clients Right Message on Growth vs. Contributions

I read an interesting article this past week that got me thinking about the message we give to clients. Let me explain.

There is a lot of talk about not missing the best 10 or 20 days of the market. The accepted wisdom says that if you do, your returns would have been lower by X%. And that is certainly true. However, there's another side which does not always get told. That side argues that if you miss the "worst" 10 or 20 days, your returns would be higher by Y%. Actually, the Y% is much greater than the X%. 

In other words, it's more beneficial to avoid bad days than good ones. OK, a lot of us get that. But the article went on to explain how contributions play a very major role in the accumulation of wealth. Although I thought I understood that well, I had to check the numbers for myself. I followed three steps in route to the answer. 

Step one was to project the annual account values, using various rates of return and assuming a $10,000 contribution per year (Exhibit A).

 

 

 

 

 

 

 

 

 

 

 

 

 

 

In step two, I separated the growth portion from the contribution, which is shown in Exhibit B.

 

Finally, I calculated the growth portion as a percentage of the total account value (Exhibit C). I also highlighted the percentages exceeding 50%. In other words, if the growth portion of the account was greater than 50% of the total account value, the cells are shaded in green and outlined. The interesting point is that when comparing various returns over various time frames, it becomes easy to see at what point the growth becomes more important than the contributions.

Therefore, if you have clients who have waited until later in life to get saving, and/or who are more risk averse, the amount that they contribute is the most important factor. 

So as I like to say, "Wealth doesn't depend on how much you earn, but on how much you can save." After all, who's wealthier, the 60 year old with $1,000,000 who needs $100,000 a year to live....or the 60 year old with $750,000 who needs $50,000 annually?

The moral? Save all you can, and then save some more!

Thanks for reading and have a great week!

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