In this Newsletter, I will share my personal experience on how compounding allowed me to retire at 48 and proclaim that it is the most powerful force in the universe. Actually Albert Einstein is credited for saying that, but there is no evidence that he ever did….go figure.
What is compounding? It’s basically the same as compound interest as most of you may already be familiar with. I know to many it’s maybe a little obvious, but its surprising that some people actually do not know how it actually works or how important it is to investing.
Simply speaking, it’s the way your investments make a profit one year and those same profits are reinvested for the next year, so profits also make more profits. In math terms, this creates an exponential curve up instead of a standard straight line. This means faster and more money!
A simple example borrowed from an old East Indian fable goes this way: You start with one grain of rice on a square of a chess board. On the next square you double that grain to 2 grains, on the next square you double to 4 grains and so on. How many people can you feed on the 64th square if you continue compounding at that rate? Well you can feed everyone on earth for a few centuries actually. Not convinced, try it out.
My Real Life Example of Compounding
Here is a more recent example of the power of compounding. This true story starts about 12 years ago, when i started my hobby portfolio by commandeering a small amount of my wealth account away from my financial advisor. It was part of my retirement plan, a new hobby to say. In those 12 years I have managed to increase that original amount by over 6 times. I have been lucky in that the market has been strong during this time and I have also been fortunate to beat the market by a little (by average) every year. I averaged 17% vs 14.5% real return for the sp500 but small amounts matter when compounding.
How did compounding work before I retired?
I got to the age of 48 with enough money to retire by mostly; investing in stocks, building a work pension and to a lesser degree investing in real estate. It was definitely a hodgepodge of sources, but primarily driven by work income.
In the early years on the investing side, I put two or three thousand dollars away each year and had little to show for the effort, it was not an obvious compounding story at first glance. I could see why people did not take compounding seriously. From a math perspective my 3000$ would make lets say 10% per year, if I was lucky, which gave me 3300$. Not really mind blowing is it? The compounding starts when the money you made the first year also contributes to the next year. So my 3300$ turns into 3630$ after 2 years, if you assume a 10% return. Still not mind blowing is it? You have to remember the rice fable, everything takes time. I continued to add about 3000$ every year from my salary, sometimes more, sometimes less. After a few years the snowball started growing more and more. Eventually there came a time where I realized that my annual return on my investments surpassed my annual contribution. That is when things became much more interesting.
Rule of 72
Time is the key to compound interest. Rule of 72 helps me contextualize it to people. If you return and average of 10% then your doubling period Is about 7 years. In math terms, its 72 divided by 10 years gives me about 7 years. So even if you just let your money sit for 7 years returning 10 percent per year, your money will double in year 7. Let that sink in a bit. Now 10 percent is the average stock market return, but in the last decade or so, its been even higher so doubling periods have been shorter.
Back to my real life experience, so as much as I had a rather slow start to investing, it only began to look pretty good as we approached the end of the 90s. I was averaging way over 20 percent returns as I really got into momentum investing. That is a doubling period of 3.5 years. Money was being made hand over fist. I was a stock market genius!
That all came to an end in early 2000 with the dot com bubble bursting. It felt like the end of the world. I was no longer a genius as I lost almost every gain I had made during those last couple of years.
The lesson learned is that the compounding effect gets sometimes run over by external market forces. The market is not guaranteed and can be quite volatile and you should expect it. The effect of compounding should be a nice curve up, but in my experience its messy based on the ups and downs of the market.
The Dotcom bear market lasted a couple of years before bottoming and then started rising again. Then came the great Recession of 2008 and later Covid in 2020. Most people do not realize but the average market return of 10% includes these big drawdowns.
For the last 15 years or so, the market has been mostly a rocket, with only the already mentioned short Pandemic speed bump. That one was also financially the end of the world…again.
Retiring early or retiring rich or both is easy at least from a math perspective if you simply keep investing no matter what happens. In reality for most people its not that easy because life can trip you up, there are allot of scary things out there that can convince you to make bad investing decisions or not invest at all. Making sure you achieve market returns is essential to compounding, no matter the investing environment. Even if you achieve lower returns, compounding will still help, it will just take longer.
So that is the story of how investing and letting compounding do its thing got me to where I am. Its not pretty and I cannot even tell you what compound rate I achieved in those early years, but it does work out.
Marc’s lessons in compounding:
Know it is real and powerful, like a snowball slowly going down a slope and turning into an avalanche.
Time is the key, starting early makes it easy. To be clear, start in your twenties or earlier still.
Achieving market like returns is also very important, think of our doubling period discussion.
Stay in the market. Timing the market to get in and out, works against you. Few ever get this right.
Adding to the snowball every year helps especially in the beginning.
Adding contributions when times are tough is also strategic.
Take advantage of tax deferred government retirement plans.
Final Word
Today, a good year of investing provides more money than I know what to do with as the snowball just keeps rolling and getting bigger. The compounding machine just keeps turning. Dont get me wrong, there have been a few bad years, but positive years more than make up for these.
Compounding is definitely a force, may it be with you. (Credit Albert Einstein who also never said this).
Market Action
I have been making allot of adjustments to the portfolio in the last 2 months in light of the huge gains that I have made (see buy and sell below). I am always trying to manage risk versus return. After big gains, you have to ask yourself, what if the market goes down? Will these big gains hold? Maybe, but likely not. So I have been partially selling positions that have had huge gains as well as selling entire positions that I deem too risky then redirecting funds into more boring, more solid positions.
The portfolio as a whole has over performed even though it was designed to be much safer than the market. My assumptions about sector weighting were really good, but mostly I was lucky on many individual stock picks. Its a weird market and so I continue to trade risk for safety.
Marc’s Monthly Moves
- Sold 1/3 of Cameco (CCO), 66%YTD
- Sold MEG energy, 21% YTD
- Sold some Berkshire class B (BRK.b), 8.5%YTD
- Sold some Alibaba (BABA), 105% YTD
- Sold some shares of Google (GOOG), 35% YTD
- Sold some Taiwan Semi Conductor (TSM), 52% YTD
- Sold Intel corp (INTC), 25% YTD…when sold, overall a loser position as I bought too high and sold too soon.
- Bought Tourmanline (TOU.to)
- Bought JDcom (JD)
- Bought more Lumen (LMN.V)
- Bought more Village Super Market (VLGEA)
- Bought more Verizon (VZ)
- Bought more Ingles Markets (IMKTA)
- Bought more Amazon (AMZN)
- Bought Elevance Health (ELV)
Marc’s Portfolio YTD Performance
- Portfolio return: +22.3% (including currency loss)
- Portfolio return: +24.1% (without currency loss)
- S&P 500 return: +15.47 %
- RSP ETF S&P equal weight +9.15%
- TSX: +22.75%
The portfolio is over performing the sp500 by 8.63% points.
Money with Marc 