Why compound interest is like a financial snowball
Compound interest is sometimes described as the eighth wonder of the world. So what is it about compound interest that’s so powerful? And how can it help your retirement savings work much harder?
Think of compound interest as your personal financial snowball
Generally speaking, the reward for taking on more investment risk is that you’ll get a higher average return. And when you combine higher returns with a long-term investment horizon, you can get your money to work harder for you.
The power of compounding is the snowball effect that happens when you receive returns on your earnings, as well as on your original investments.
To work its magic, compound interest requires three ingredients: money, earnings and time … the same three ingredients that go into superannuation.
Whether you’re retired, or thinking of retiring in the next 10 years or so, it’s a good idea to check in and see how much of an income your savings could support. That way you still have time to adjust your investment strategy to reach your goals.
If you haven’t quite retired yet and want your savings to last longer, you could consider additional contributions. But did you know that delaying retirement by just one year could potentially increase your likely retirement income by over 5%?
Some investment risk may necessary to boost earnings
How you invest your retirement savings is also important.
Later in retirement when your balance is low, how long your savings can last is mainly driven by the amount of money you withdraw.
But early in retirement when your balance is high, you will see investment returns playing an important role. In fact, 20% of your spending in retirement will be funded from the investment returns you earn on your balance after you’ve retired.
Watching your balance rise and fall with the market can be a bit concerning… But even in retirement, your investment horizon can be long, and taking some investment risk is really the only way to get the long run returns you need to make your money last.
How to get the right strategy
In retirement, it’s important to make sure your savings are working hard to enhance your lifestyle and last your lifetime. You want your money to keep working for you, but in order to enjoy the benefits of compounding, you also need a plan that reduces the risk of selling assets at a loss to fund your lifestyle.
It’s about getting the balance right. The main thing is to make a plan and stick to it. Your planner can help you work out the right investment strategy for you.