March 1, 2012

A lot, if invested consistently over time.  Imagine this: in the 40 years between 1971 and 2011, $1,000 invested at the beginning of each year in the C Fund – the large stock index fund – would have grown to over $626,000 by the end of 2011.  An investor in this scenario would have more than half-a-million dollars after investing a total of only $40,000 over these 40 years!

Why 40 years?  This corresponds to saving and investing over a working lifetime, from the age of 22 to age 62, or age 25 to age 65…or if you started early enough (and how many of us did that?), age 16 to age 56.  But even after 20 and 30 years, you can certainly see the growth potential under normal circumstances.

Of course, that the C Fund only began taking investments in 1988 so it wasn’t around for all of those 40 years. But for illustrative purposes, we can calculate the approximate returns based on the underlying index, the “S&P 500” index of the stocks of the 500 largest companies in the United States between 1971 and 2011. And the results, as you can see, are amazing.

Before going through the numbers, though, recall the warning that “past performance does not necessarily indicate future returns,” or versions to that effect.  In other words, just because an investment did well in the past, does not mean it will continue to do well in the future.  And we have seen this on multiple occasions since 2001, when stock investments fell sometimes quite dramatically.  The ups and downs of the market returns are illustrated in the line graph below.  But the general trend, over long periods of time over the past two centuries, has been up.

During this 40-year time frame from 1971 to 2011, the S&P 500 remained essentially stagnate in the 1970s, and it also suffered several significant downturns in that decade as well.  The same thing happened in the 2000s, with significant declines in 2000-2002, and again from late 2007 to 2009.  Each of these decades experienced painful declines of 30% to 50% in the S&P 500.  So in each of these declines, a $100,000 portfolio invested solely in the C Fund would have decreased to as low as $50,000!

$1,000 invested over 40 year

$1,000 invested each year for 40 years yielded a significant return

(Read about a technique to avoid steep declines in your TSP investments in Strategies 1 and 2 in TSP Investing Strategies.)

Yet each time after these declines in the past, the S&P 500 – or for the TSP, the C Fund – came back and achieved new highs years later. As Jeremy Siegel pointed out in his book Stocks for the Long Run, the stock market as measured by the S&P 500 has increased an average of just over 10% annually since 1926. This time frame includes steep declines during the Great Depression in the 1930s, World War II in the early 1940s, the Korean War era in the early 1950s, the Cuban Missile Crisis in 1962, and on and on. A lot of bad stuff happened that caused stock markets to go down, but over the long term, they continued to grow along with the overall economy. This points to the resilience of the U.S. economy over the longer term, too.

According to the U.S. Census Bureau, the median family income in 1971 was $10,290. Thus, the $1,000 represents about a 10% family household savings rate – only 5% if a government match of 5% were included in this calculation, as FERS employees currently receive. So this savings rate was quite feasible even in 1971.

Moreover, median family income rose steadily since 1970. By 2010, median household income had risen to $49,445, according to the U.S. Census Bureau’s most recent statistical analysis of household income. Had this same investor continued to invest around 10% of his or her income during this time as it rose along with the media household income, the investment returns would have been even greater.

For example, had an investor increased contributions by 5% each year, that investor’s yearly contribution would have steadily increased from $1,000 in 1971 to $7,040 by 2011, with total contributions from 1971 to 2011 reaching $127,840 over that 40-year period. The investor’s TSP account, however, would be worth over $1,017,550 by the end of 2011—over 50% greater than by just investing a constant $1,000 each year. (And in 2007, that amount reached $1,051,000 before declining the following two years during the financial downturns of 2008-2009.)

Increasing your regular investments provides even more growth

By increasing one’s investments 5% each year, this investor enjoyed significant growth since the early 1970s

How would you like to leave a career in government or military service with a nest egg approaching $1 million or more? As the above examples indicate, steady investments over long time periods can yield outsized gains, if invested steadily over sufficient periods of time.

Moreover, a majority of TSP investors can likely contribute more than $1,000 per year into TSP stock funds and other investments. Imagine what your investments might be worth if, instead of investing $1,000 per year, you invest $5,000 or $10,000 per year, or more. The results are likely to be spectacular, as long as you have the patience and fortitude to withstand the declines over time and have a stable reserve of funds from which to invest into stock funds during market declines.

And to really blow your mind, what if that investor had put more money into the S&P 500 (or C Fund) as it declined in value, before it went back up? Remember the old adage, “buy low and sell high”? What if that investor had bought low throughout those 40 years, and never sold? Moreover, what if that investor had invested in a Roth TSP, so that any withdrawals would be tax free?

The trick is to know how to buy into declining markets.

Related topics: c-fund i-fund s-fund l-funds g-fund f-fund long-term-investing investing-styles roth-tsp