For many people, including myself, the $1 million mark has long been a symbolic financial milestone. Unfortunately, reaching $1 million by strictly saving is all but impossible for the vast majority of people. Even with 40 years to do it, it would require saving $25,000 after tax annually. Considering the median annual U.S. household income is just under $75,000, it’s not feasible for most people.
Luckily, there’s this thing called investing that can help make hitting $1 million possible. And to make it even better, it can likely be achieved by investing $500 monthly into an S&P 500 ETF.
Compounding is one of the most powerful forces in investing and arguably the biggest wealth-generating phenomenon. It happens when the returns you earn on investments begins to earn returns on itself.
Suppose you invest $1,000 and get an annual return of 10%. After year one, you would’ve made $100. Assuming you reinvested the money, you would make $110 in year two because you also got a 10% return on the $100 in increased value from year one. In year three, you would earned $121 ($1,210 * 10%), and so forth.
Most people don’t have six-figure lump sums they can invest to hit the $1 million mark, but you don’t have to, thanks to compounding. All you need is time. It’s the catalyst that lets compounding work its magic.
Time can do the heavy lifting for you
Historically, the S&P 500 has averaged roughly 10% annual returns over the long term. Past results don’t guarantee future performance, of course, but if we assume this trend continues, here’s how $500 monthly investments would add up over time, thanks to compounding:
Table by author. Value rounded to the nearest hundred.
If you notice, the gap between values increases with each five-year increment, indicating how powerful time can be in amplifying compounding.
Alternatively, here’s how long it would take to hit $1 million based on different monthly investment totals averaging 10% annual returns.
Years Until $1 Million
Table by author.
Averaging 10% annual returns, someone can hit the $1 million mark in 31 years by investing $500 monthly. Doubling the monthly investment to $1,000 shaves seven years off the time, and investing $1,500 monthly puts you on a path to accomplish it in just two decades.
Arguably the best part, however, is how relatively little someone has to personally contribute to hit those marks. This is another testament to the power of compounding.
Why the S&P 500 index over others?
There are many worthwhile indexes in the stock market, and many have had lots of recent success. The Nasdaq Composite, one of the three major indexes, has noticeably outperformed the S&P 500 in recent years, mainly because of the surges of large-cap tech stocks.
^NACTR data by YCharts
So, why not choose the Nasdaq Composite or another fund over the S&P 500? The S&P 500 is the true one-stop shop. The thing that sparked the Nasdaq Composite’s success (rising tech valuations) could also be what sets it back (a slump in the tech sector). The S&P 500 does a good job of providing a more balanced investment approach.
An S&P 500 ETF like the SPDR S&P 500 ETF Trust(SPY 0.12%), for example, contains companies from all 11 major sectors:
Communication services: 8.80%
Consumer discretionary: 10.62%
Consumer staples: 6.40%
Information technology: 29.00%
Real estate: 2.34%
More diversified holdings puts the S&P 500 in a position to weather various market conditions and balance out the volatility of individual sectors, which is good news for long-term investors. For example, when tech stocks are underperforming, other sectors like healthcare or financials may pick up the slack and keep your portfolio more stable.
Hitting the $1 million mark is a long-term game, so you want to ensure you’re investing in an index that has proven to be resilient and consistently performs over decades. That’s the track record of the S&P 500.
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